NC Business Court Approves Another Disclosure Only Class Action Settlement

Judge Gale's approval last week of a class action settlement, in In re Krispy Kreme Doughnuts, Inc. Shareholder Litigation, 2018 NCBC 1 gives me another opportunity to rail against disclosure only settlements.  You know that I don't like them.  If you don’t know that, I’ve written on this subject several times. Like here, here, and here.

The Krispy Kreme shareholder class litigation followed what has become the inevitable path for almost every merger deal.  The transaction was announced on May 9, 2016.  Seven shareholder lawsuits alleging that the Krispy Kreme board members had breached their fiduciary duties in agreeing to the transaction (five in NC state courts and later consolidated in the NC Business Court) followed in the next month.

The plaintiff shareholders filed a motion for a preliminary injunction blocking any shareholder vote on the transaction until supplemental disclosures in Krispy Kreme's proxy statement were made.  The very next day, in connection with a settlement agreement, Krispy Kreme filed a Form 8-K to supplement its proxy statement.  The shareholder vote went ahead on July 27th, with 95% of those voting approving the deal.

The value of those additional disclosures was assessed by Judge Gale in determining whether to approve the settlement.  As the Opinion didn't consider the amount of attorneys' fees to be awarded to Plaintiffs' class counsel (there has not yet been an application for fees), Judge Gale assessed the "give and the get" of the "give" of the release by the class against the materiality of the additional disclosures (the "get").

North Carolina assesses materiality based on the U.S. Supreme Court's definition of that term in TSC Industries, Inc. v. Northway, 4266 U.S. 48 (1976).  The holding in TSC Industries was:

[a]n omitted fact is material if there is a substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote. . . .It does not require proof of a substantial likelihood that disclosure of the omitted fact would have caused the reasonable investor to change his vote. What the standard does contemplate is a showing of a substantial likelihood that, under all the circumstances, the omitted fact would have assumed actual significance in the deliberations of the reasonable shareholder. Put another way, there must be a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the “total mix” of information made available.

 Id. at 449.

 Okay.  Let's assume that I am a reasonable investor looking at the Krispy Kreme supplemented proxy.  Would the supplemental disclosures obtained through the blood and sweat of Plaintiffs' counsel have "significantly altered the 'total mix of information made available" to me in the original proxy? 

I don't think so.

First, "[t]he Supplemental Disclosures included the specific projected unlevered, after-tax free cash flows of Krispy Kreme for the remainder of 2017 and for the fiscal years 2018 through 2023,as derived from the financial projections provided to Wells Fargo by Krispy Kreme management."  This disclosure was designed to deal with the lack of disclosure of Krispy Kreme’s specific projected unlevered after-tax free cash flows Wells Fargo used in its DCF analysis."  Op.  

That would not change the mix of information before me because it is actually meaningless to me,  Unlevered?  Come on.  What?  I don't have a clue what that supplemental disclosure means.  Maybe a hedge fund manager or an MBA student focusing on finance would.  But they would be too knowledgeable to be considered "reasonable investors". 

Class counsel argued that the differences between the discounted cash flow analyses, while "slight in any particular year" that "the differences over time have greater significance."  Op. ¶58.  Judge Gale accepted that as "a reasoned argument that some shareholders might have found" that the Supplemental Disclosure regarding the DCF analysis was material."  Op. ¶58. 

The next supplemental disclosure has a little more meaning to me.  It was in response to Plaintiffs complaining that the original Proxy did not disclose whether the Krispy Kreme board "had discussed post-Merger employment opportunities at the inception of merger negotiations."  Op. ¶52.


 In a less than stunning supplemental disclosure, the Defendants added this nugget of questionable value:


that Krispy Kreme board members, in preliminary discussions about a potential merger . . . discussed [the buyer's] 'history or managing its portfolio companies for long-term growth and relying on company management to run the business.'

Op. ¶52.

So board members also employed by Krispy Kreme might have been influenced to vote in favor of the transaction because they might keep their jobs?  That speculation makes no difference to me.  And how many board members served in company management?  Did they have excessively rich employment contracts being drafted with the buyer of Krispy Kreme's assets?  Were their votes essential to the approval of the deal? 

Another supplemental disclosure concerned the previous relationship of Wells Fargo -- the investment banker on the deal --- to Krispy Kreme and its acquiror. 

The supplemental disclosures revealed that in the two years before the deal was struck, Krispy Kreme had paid Wells Fargo $300,000 for "investment banking services" and that an affiliate of the buyer had paid Wells Fargo $1 million "in connection with corporate loans."  Op. 52.

Would that have caused reasonable investor me to discount Wells Fargo's analysis of the transaction because they were tainted by their previous receipt of fees?  No.  $1.3 million doesn't carry the influence that it used to.

There's at least one other Krispy Kreme ruling imminent from the Business Court.  That will be the ruling on the fee application from the Plaintiff class' lawyers.  I will be watching for that.

I should probably disclose that I prefer Dunkin’ Donuts over Krispy Kreme.


These Class Action Lawyers Made Their Fees The Old-Fashioned Way. They Earned Them!

It's not very often that I see a fee application in a settled class action in the Business Court that doesn't strike me as requesting approval of an overpayment for a less than successful result.  Those are most often in the settlement of merger class action in which the only benefit for the class was the extraction of additional disclosures in a proxy statement.

But last week, looking at the Order approving a class action settlement and a fee petition in Elliott v. KB Home North Carolina, Inc., 2017 NCBC 37, I had exactly the opposite reaction.  It was an excellent result for the class members, and the nearly $2 million in attorneys' fees approved by the Business Court were well earned.

I've written about the Elliott case three times: The class was certified by Judge Jolly in 2012.  Judge Jolly ruled later that KB Home had waived its right to compel arbitration of the claims.  After Judge Jolly's retirement, Judge McGuire ruled that he could modify the membership of the previously certified class due to a change in circumstances.  The class members are homeowners in North Carolina living in houses built by KB Home.  The houses were constructed with siding manufactured by HardiePlank that did not have a weather restrictive barrier (a WRB) behind the siding.  The houses were then damaged by water infiltration.

This is not a settlement where the class members receive something like coupons towards a future home purchase.  Instead, there is real and substantial money being paid to them.  Depending on the square footage of their homes, class members who are current homeowners can be paid between $6500 and $17,000.  In the alternative, these class members can have their existing siding and replaced with new HardiePlank, this time with the missing WRB.

There is also a subclass of class members who have already sold their homes.  These subclass members are entitled to receive either a lump sum payment of $3250 or to prove that the selling price of their home decreased due to the lack of a WRB.  This type of recovery is capped at $12,000.

There is no doubt that the lawyers worked hard to achieve this result, as detailed in the Affidavit of lead counsel in support of the fee petition.  They filed or responded to twenty-seven briefs in the trial court and eight briefs in the appellate courts.  They reviewed 46,000 pages of documents produced, and they took or defended or attended forty-four depositions in five states.  Fee Affidavit ¶41.

Judge McGuire wrote in glowing terms of the qualifications of class counsel.  He said that they had "decades of experience litigating construction product defect cases on an individual, multi-family, and class basis."  He called one of the lawyers "one of the nation's most respected and experienced attorneys in these areas."  Order ¶37.

As a part of the settlement agreement, the Defendants agreed that they would not oppose a request for fees and expenses not to exceed $1,925,00.  That is exactly the amount requested by Plaintiffs' counsel: including $148,493.61 in out-of-pocket expenses and $1,776,506.39 in attorneys' fees.

That fee amounted yielded an "implied hourly rate" of $337.28 (based on 5,267 hours of work), which was approved as reasonable by Judge McGuire. Order ¶¶40-41.  That hourly rate is within the ranges previously approved as reasonable by the Business Court -- like $325.04 per hour in Corwin v. British Am. Tobacco PLC, 2016 NCBC 14 at *15 and between $300 and $500 per hour in Nakatsukasa v. Furiex Pharms., Inc., 2015 NCBC 71 at *24.

I have a hard time reconciling this fee petition to the one from the lawyers representing the class in the Ehrenhaus case (which challenged the merger years ago between Wachovia and Wells Fargo).  The Ehrenhaus lawyers asked for $1,975,00, almost the same as the request by the Elliott lawyers ($1,925,000).  But the Ehrenhaus lawyers obtained nothing of value for that class.  Also, they did not bother to submit any records regarding the hours worked on the case, other than to claim having spent 2300 hours on the case (less than half of the 5267 hours spent by the Elliott lawyers).  They took four depositions (the Elliott lawyers took forty-four) and reviewed 9,500 pages of documents (far less than the 46,000 obtained by the Elliott lawyers).  The Ehrenhaus settlement, moreover, came just a couple of months after the lawsuit was filed.  The Elliott lawyers worked their case for eight years.

The Ehrenhaus fee petition of $1,975,000 ended up getting chopped down by Judge Diaz of the Business Court by nearly half (to $1 million).

NC Business Court Sends Some Important Messages About Fees To Lawyers For Class Action Plaintiffs

If you've been reading this blog for any length of time, you know that I am very sour on substantial attorneys' fees being awarded to the lawyers for class action plaintiffs who obtain nothing more for the class than valueless additional disclosures with regard to a merger transaction.  You can read some of those posts here and here.

The Business Court has routinely been awarding substantial fees for disclosure only settlements up until now, but the Business Court's decision last week in In re Newbridge Bancorp Shareholder Litig., 2016 NCBC 87 sends the message that its relaxed examination of the value of such settlements is probably at an end.  That is partly based on the Delaware Court of Chancery's decision in In re Trulia, Inc. Stockholder Litig., 129 A.3d 886 (Del. Ch. 2016), which was characterized as the "death knell" there for such settlements.

Judge Bledsoe said in the Newbridge Opinion:

the North Carolina Business Court has historically been guided in its consideration of motions to approve, and award attorneys’ fees in connection with, “disclosure-based” settlements of merger-based class action litigation by the body of persuasive case law developed by the Delaware courts over a period of many years. The Court is also aware that the Delaware courts have recently subjected such motions to much more exacting scrutiny than they have in the past.  See, e.g., In re Trulia, Inc. Stockholder Litig., 129 A.3d 886 (Del. Ch. 2016).

In the absence of contrary instructions from the North Carolina appellate courts, the Court finds the recent trend in the Delaware case law requiring enhanced scrutiny of disclosure-based settlements to merit careful consideration for potential application in this State.  The Court recognizes, however, that the application of Delaware’s recent case law to the Motions would represent a marked departure from this Court’s past practices in connection with the consideration of such motions. As a result, the Court declines to apply enhanced scrutiny to its consideration of the Motions in this case but expressly advises the practicing bar that judges of the North Carolina Business Court, including the undersigned, may be prepared to apply enhanced scrutiny of the sort exercised in Trulia to the approval of disclosure-based settlements and attendant motions for attorneys’ fees hereafter.

Op. Pars. 4 and 5.

Notwithstanding Judge Bledsoe's decision that "enhanced scrutiny" would not be applied in the case before him, he did undertake a pretty close review of the value of the disclosures obtained for the class, and also the amount of the attorneys fees being awarded.

The Disclosures Obtained By Class Counsel Did Not Justify The Amount Of Fees Sought

He said that some of the disclosures touted as the basis for the fee award were "not material" or of "marginal benefit." Op. Pars. 64-65, 71 & n. 10.  He said that the Delaware Court of Chancery had "long rejected" the fallacy "that increasingly detailed disclosure is always material and beneficial disclosure."  Op. ¶64 (quoting Dent v. Ramtron Int’l Corp., No. 7950-VCP, 2014 Del. Ch. LEXIS 110, at *47  (Del. Ch. June 30, 2014)).

After that review, he sliced in half the amount of fees sought by class counsel, finding their fee request (of almost $275,000 based on an implied hourly rate of almost $525) was "not fair and reasonable, but rather excessive based on the circumstances of this case and the record before the Court."  Op. ¶69.

On the limited fee information provided by the class plaintiff's counsel, Judge Gale said that the $135,000 fee award he made yielded an implied average hourly rate of $258.  That probably seemed pretty skimpy to those lawyers, who said that the "usual and customary rates" for  the senior lawyers for the Court-approved Co-Lead Counsel ranged from $650-$850 per hour.  Op. ¶50.

But the lawyers for the class did little to justify their fees.  They did not offer any affidavits of North Carolina attorneys attesting to “the fees customarily charged in the locality for similar legal services,”  as contemplated by the Revised Rule 1.5(a)(3) of Professional Conduct.  Instead, they premised their fee request on a 2015 survey of billing rates published in the National Law Journal.  Judge Bledsoe rejected that, saying that "the NLJ Survey does not report the specific range of hourly rates customarily charged in North Carolina for legal services of the sort Plaintiffs’ counsel provided here."  Op. ¶51.

The Business Court Said That "Typical Fees" In North Carolina For Complex Litigation Are $250-$450 Per Hour

Left without any benchmarks for what North Carolina lawyers charged as "customary rates" for complex commercial litigation, Judge Bledsoe looked to affidavits offered to the Business Court in other class action fee applications which stated that "typical fees charged in North Carolina for handling complex commercial litigation range from $250 to $450 per hour."  Op. ¶52.  He also relied on the hourly fees charged by lawyers appointed by the Business Court to serve as receivers or as counsel for receivers (which ranged from $225 to $475 per hour). Op. ¶54.

Another Important Caution For Future Fee Applications

Another deficiency in the fee application was the failure to supply detailed time records justifying the time spent.  The fee applicants instead presented only summary charts showing the total hours spent on the lawsuit.  In another caution for lawyers requesting approval of fee applications, Judge Bledsoe said:

the Court notes that attorneys’ fees’ petitions in this Court are typically supported by detailed attorney time records and advises that the Court will be reluctant to approve future petitions for attorneys’ fees lacking such evidentiary support.

Op. ¶45 & n. 8 (emphasis added).

Judge Bledsoe also said that there was nothing so special about the work done by class counsel to justify the higher hourly rate that they requested.  He said that: the nature of the work performed by Plaintiffs’ counsel "could have been performed fully by competent North Carolina counsel and that the demands of the [litigation] did not require Plaintiffs to retain counsel from outside North Carolina in order to prosecute the [litigation].  Op. ¶55.

If you think that I am being too hard on Plaintiffs' counsel, I should point out that Judge Bledsoe said he found that:

Plaintiffs’ counsel are highly-regarded, highly-experienced class action counsel that have been involved in a number of significant class action matters including matters resulting in substantial monetary recovery for the class.

Op. ¶46.

Regardless of their qualifications, in the future these lawyers (who were undoubtedly disappointed in this ruling due to their success last year in getting a $550,000 fee award approved by a different Business Court Judge) and other lawyers for class action plaintiffs expecting big fees for anticipated disclosure only settlements of marginal value might need to find some other state in which to file those claims.

No more feeding at the trough in North Carolina.

A Couple Of Other Notes On This Opinion

One of the remarkable things about this Opinion is that there were no objections to the fees sought by the attorneys for the class.  Judge Bledsoe resolved, on his own accord, to closely review and reduce the fees sought.

Second, I recognize that even class actions leading to immaterial disclosure only settlements involve the need for North Carolina lawyers to defend those claims.  So it would be a shame if those out of state lawyers filing the suits leading to these settlements were to stay away from North Carolina altogether.



Continue Reading...

"Giving" And "Getting": The NC Business Court On Disclosure Only Class Action Settlements

Disclosure only settlements are in deep trouble in Delaware based on the Court of Chancery's decision last month in In re Trulia Inc. Stockholder Litigation.  That decision is said to have sounded a "death knell" in Delaware for such settlements.

If you are not familiar with disclosure only settlements, David Wright provides a good explanation on Robinson Bradshaw's Carolinas Class Action blog.

In the Trulia Opinion, Chancellor Bouchard concluded after an extended analysis (on pages 25-43) of each of the disclosures on which the settlement (and fee) were based that "none of the supplemental disclosures  were material or even helpful to Trulia's stockholders" and declined to approve the settlement, which would have involved a fee to the lawyers obtaining the disclosures of up to $375,000.  The Chancellor said that the Chancery Court would be "increasingly vigilant in scrutinizing the 'give' and the 'get'" of  disclosure only settlements.  Op. at 2.

How will this affect disclosure only settlements in North Carolina?  Hardly at all, at least based on how I read the recent Order by Judge Gale in Corwin v. British American Tobacco PLC, 2016 NCBC 14 which certified a class, approved a disclosure only settlement, and awarded Plaintiff's counsel nearly $400,000 in fees.

The Objection To The Corwin Settlement

The Corwin case was brought by a Reynolds shareholder attacking the transaction by which Reynolds American, Inc. (formerly R.J. Reynolds Tobacco) acquired Lorillard Tobacco.  Mr. Corwin originally sought to enjoin the transaction from proceeding, but he dropped that Motion in exchange for a settlement involving a limited group of additional disclosures.

Only one objection to the settlement was filed.  It was by a Lorillard shareholder named James Snyder.  I read Mr. Snyder's Objection at the time it was filed and thought it was well done, especially coming from a person who I assumed was not a lawyer, as he said in his Objection that he was "in the process of retaining counsel."

Later, I found out (from the Plaintiff's response to the Objection) that Mr. Snyder was not only a lawyer, but that he had previously been General Counsel for Family Dollar Stores, and in-house counsel for Home Depot, Inc.  Before that, he was a partner at King and Spalding in Atlanta.

Mr. Snyder fired off his most potent attack on the settlement through an Affidavit from a law professor/expert witness he retained named Sean Griffith.  Professor Griffith's CV is very impressive (he has just about everything in it but a Supreme Court clerkship). 

Professor Griffith's Affidavit excoriates the value of the additional disclosures obtained by Corwin.  Say you were a Reynolds shareholder interested in reviewing the Reynolds proxy statement and the additional disclosures obtained via the class action.  Here's what you got:

  • The "unlevered free cash flow projections" for Reynolds and Lorillard.  Given the wealth of financial data in the original proxy statement, this probably was useless additional information for a "reasonable investor."
  • A statement that Reynolds had not, at the time the transaction was announced, entered into a "technology-sharing initiative" with British American Tobacco.  You knew that there was no agreement in place even before the additional disclosures, as Reynolds referred in its original proxy statement only to "an agreement in principle" with BAT.  That was a pointless additional disclosure.
  • A statement that Reynolds "could not predict future regulatory action with regard to menthol" cigarettes.  Well, duh, who can predict future regulatory action?

The Business Court Said That It Had Carefully Assessed The "Give" And The "Get" of The Settlement

I was looking forward to Judge Gale weighing the value of these seemingly worthless disclosures, and dealing with Professor Griffith's Affidavit, but he didn't.  He covered the disclosures in a mere 15 words, saying that "[t]he Court has carefully balanced the ''give' and the 'get'' of the proposed Partial Settlement," and he overruled the Objection. Order 11(f).  There wasn't any discussion of whether the "give" (the $379,389.65 in fees) was an appropriate exchange for the "get" (the additional disclosures and a release by the class).

The applicability of the Trulia decision in North Carolina as a basis for disapproving disclosure only settlements was dealt with in this way:

the Court noted that there are differences between Delaware law and North Carolina law that may be relevant to Chancellor Bouchard's favored approach of reviewing fee requests based on supplemental disclosures. . . . That approach is possible because Delaware courts employ the common-benefit doctrine when approving attorneys'-fee requests.  North Carolina does not.

Order 11(f).  I have puzzled over the significance of the lack of recognition of the common-benefit doctrine in NC, and I just don't get it.  Even though our state doesn't recognize the "common-benefit doctrine" -- which means that when a shareholder obtains a substantial benefit (though nonmonetary) for other shareholders, a fee can be awarded --  it still is settled in NC that a court certifying a class action and approving a settlement is bound to assess the reasonableness of fees to be awarded to class counsel.  See, e.g., Ehrenhaus v. Baker (N.C. App. 2015)(a trial court considering a class action settlement "must ascertain whether the proposed settlement is fair, reasonable and adequate.").

Judge Gale did take steps towards assessing the reasonableness of the fee.  He said that the hourly rate yielded by the fee was $325.00 per hour, which he said was "reasonable, and clearly not an excessive rate."   Order  ¶11(n).  And he also said that the fee award was "consistent with, and in fact less than, the amount of fees awarded in connection with other disclosure-based settlements that have come before this Court for approval" and that the amount of the fee was also in line with "what a Delaware court would award in similar litigation," Order ¶11(o),  Whether that statement regarding what the Delaware Court of Chancery would have done if this settlement had been before it is open to debate, given the Trulia decision.

But there is absolutely nothing contained in this Order about whether the additional disclosures provided any meaningful new information to the Reynolds shareholders.  Maybe, in North Carolina, the Business Court is not going to bother to consider whether additional disclosures traded in exchange for a at fee award are really worth anything.

What Would Judge Tennille Have Done With This "Stinky Fee"?

I''m disappointed by the lack of analysis of these disclosures.  I think that Judge Tennille, the first Judge to serve on the Business Court, would have handled this differently.  Five years ago, in an unpublished Order, he railed against what he referred to as the "stinky fees" paid to the lawyers challenging merger transactions and settling for getting the disclosure of "additional information."

But if the result of the Business Court's decision in Corwin is that it is seen as a welcome mat for lawyers to bring more class actions in North Carolina courts challenging merger transactions, that's probably at least good for the North Carolina lawyers defending those actions.

It is worthwhile to point out that this blog does not represent the views of Brooks Pierce.  These views are only my own and they shouldn't be interpreted as a criticism of Judge Gale.  Only . . .  disappointment in the Corwin decision.

Two Cases From NC Business Court: Class Action Fees Doubled And Expedited Discovery Denied

Last week (well, two weeks ago, I'm kind of behind) seemed like class action week at the Business Court.  Judge Gale issued three rulings in class action cases.

Two of the rulings were in consolidated class actions that had been settled.  Those were in In re Pike S'holders Litig., 2015 NCBC 89 and  90.  The third decision was in a case just at its commencement: Raul v. Burke, 2015 NCBC 91, about whether the plaintiff challenging a merger transaction was entitled to expedited discovery on her claims. 

In The Pike Order, The Court Awarded Twice The Amount Of Fees Which The Defendants Had Agreed To Pay

There''s not much worthy of note in the first Pike "decision."  It is merely an Order approving the settlement cut in the four separate class action lawsuits attacking Pike's merger.

The decision in the second Pike case, In re Pike S'holders Litig., 2015 NCBC 90, concerned an award of attorneys'' fees to the lawyers for the class.  The case is notable since the class' lawyers were awarded double the amount of fees ($550,000) than the amount which the Defendants' lawyers had agreed not to oppose ($275,000).

How did the Plaintiffs' lawyers pull that off?  They had to first get past the Defendants' argument that the Court did not have the authority to award fees in excess of the amount that they had agreed not to contest.  That argument was pretty much foreclosed by the language of the Memorandum of Understanding which led to the settlement.  It said:

[i]f the parties are unable to reach agreement with respect to the amount of such attorneys' fees, costs, and expenses to which Plaintiffs' counsel are entitled, then Plaintiffs reserve the right to submit an application for an award of attorneys' fees, costs, and expenses to be paid to Plaintiffs' counsel (the "Contested Fee Application"). . . . In the event of a Contested Fee Application, Defendants agree to pay whatever award of attorneys' fees, costs, and expenses that the Court awards.

Op. ¶17.

Judge Gale, relying on the COA's recent decision in Ehrenhaus v. Baker, held that:

when the parties agree to fee shifting but do not agree on the amount of fees to be awarded, the Court may award the amount that it determines to be fair and reasonable.

Op. ¶29.

The Court assessed the reasonableness of the half million dollar plus fee by breaking the fee down to an hourly rate (for the 1394.60 hours of time) of $550 per hour for lead counsel, $375 per hour for partner hours of non-lead counsel, and $250 per hour for associate time. Op. ¶37.  Judge Gale said that those rates were "within, but at the higher end of, the range that this Court has found to be reasonable for complex business litigation in North Carolina."  Id.

The Court Awarded Fees Based On "North Carolina Rates"

Out of state lawyers looking to take on class action cases in the Business Court might want to take caution from this part of Judge Gale's ruling:

the affidavit of Lead Counsel [who was from Pennsylvania] reflects billing rates that exceed those typically charged in North Carolina.  The Court believes that there are North Carolina lawyers who are fully capable of pursuing similar litigation and, thus, that it would be unnecessary and inappropriate to apply billing rates higher than those typically charged by skilled counsel in North Carolina.

Op. ¶36 (relying on GE Betz, Inc. v. Conrad, ____ N.C. App. __, 752 S.E.2d 634, 657 (2013).

This Was A "Disclosure-Only" Settlement

Also significant was that this doubling of attorneys' fees came in a disclosure only settlement.  Judge Gale expressed this view regarding this type of settlement :

[t]he Cpurt is mindful of substantial commentary that disclosure settlements might often reflect more of a tax cost of a merger transaction rather than a meaningful substantive benefit to the settlement class, particularly when the accompanying release is the broadest possible.  Those considerations perhaps underlie the Delaware Court of Chancery's recent caution that fee requests in disclosure-only settlements may now face more searching scrutiny, particularly when accompanied by the broadest possible releases.  See In re Riverbed Tech., Inc. S'holders Litig., C.A. No, 10484-VCG, 2015 Del. Ch. LEXIS 241, at *21-22 (Del. Ch. Sept. 17, 2015).

Op. ¶39.

The Court found that the supplemental disclosures obtained by the class plaintiffs could not "be fairly characterized as 'routine'" and that they "were clearly required to correct prior material disclosures that erroneously described circumstances related to negotiations between the corporation, its CEO, and its suitor."  Op. ¶41.

Expedited Discovery Denied In Class Action Attacking Ecolab's Acquisition Of Swisher Hygiene

It is common in litigation involving merger transactions for the plaintiff to ask for expedited discovery.  Often, there is a rapidly approaching date for a shareholder vote to approve or disapprove of the transaction, and the class representative seeks to develop evidence which will warrant an injunction preventing the vote.

In Raul v. Burke, 2015 NCBC 91, the Plaintiff was attacking the sale of Swisher's assets to Ecolab for $40 million in cash.  With a shareholder vote only a week away (set for October 15th), The Business Court denied a Motion for Expedited Discovery (on October 8th).

Plaintiff''s argument was that the disclosure of the transaction did not disclose how much of the $40 million sale price would be distributed to Swisher shareholders. The proxy statement stated repeatedly that the management and directors of Swisher could not reliably estimate any shareholder distribution.  Op. ¶12. In fact, it said that "[w]e can provide no assurance as to if or when such distribution will be made." Op. ¶11.

Where is all of that $40 million going?  Well, Swisher is in financial trouble, facing "continuing recurrent losses."  Op. ¶13.  Its accountants have issued an opinion with a "going concern" qualification.  Op. Par. 13.  Moreover, there is a criminal proceeding ongoing in the Western District of North Carolina regarding accounting irregularities.  Op. ¶9.

The Proxy Statement says that:

[t]he balance of the proceeds will be retained to pay ongoing corporate and administrative costs and expenses associated with winding down the Company, liabilities and potential liabilities relating to or arising out of our outstanding litigation matters, any fines or penalties and other costs and expenses relating to or arising out of the USAO/SEC inquiries, and potential liabilities relating to our indemnification obligations, if any, to Ecolab or to current and former officers and directors.

Op. ¶11.

The Court said that it had to balance the substantiality of the Plaintiff's claim against the harm or burden that might be imposed on the Defendant if it had to go through the expense and "potential business delay" that would result from expedited discovery.  Op. ¶7.

Continue Reading...

Can An NC Superior Court Judge Modify Another Judge's Class Certification Order?

Is the certification of a class by an NC state court set in stone or can it be modified during the course of the litigation?

The federal rule vs. the state rule

There is a difference between the federal rule governing class actions (FRCP 23) and the North Carolina equivalent (NCRCP 23).  The length and precision of the federal rule is overwhelming when measured against the short and simple state rule.

The Federal rule contains a specific provision allowing the presiding judge to alter or amend a class certification order: It says that "[a]n order that grants or denies class certification may be altered or amended before final judgment."  FRCP 23(c)(1)(C).

The NC Rule, by contrast, is silent on this subject.

The Original Class Certification

The ability of a Business Court to alter or amend a previously entered class certification order was at issue last week in an unpublished Order in  Elliott v. KB Home North Carolina, Inc.  Judge Jolly had certified a class in the case three years ago, in 2012.  I wrote about that case at the time the class was certified.The class members had in common the issue whether Defendant KB Home should have installed a weather resistant barrier (a "WRB") behind the HardiePlank® siding on homes which they had purchased from KB Homes in two developments in Cary, North Carolina.  

Judge Jolly certified a class of "all persons who own a home that was constructed by Defendant KB Home without a weather restrictive barrier" behind the HardiePlank.  Class notice went out in March 2012.

Three and a half years later, the case is now before Judge McGuire after a couple of trips to the Court of Appeals and Judge Jolly's retirement.

Change In Ownership Of The Homes Owned By The Class Memberrs

Here was the issue for Judge McGuire: Even before the class notice was sent, 38 of the members of the potential class sold their homes ("Pre-Notice Sellers") to others.  And following the mailing of the class notice, 79 of the class members sold their homes ("Post-Notice Sellers") to others. Who are proper class members? Are all of the homeowners who owned the homes without a WRB on the date of class notice members of the class, even if they had sold their homes?  Or should membership in the class be confined to homeowners who originally bought their homes from KB Homes and continued to own them through the date of final judgment in the case (who knows how long it will be before that happens?).  

A request for modification to the class definition was made by the Plaintiff.

There are multiple issues regarding those potential class members who sold their homes after receiving the class notice.  They either did or did not disclose the existence of this litigation or the absence of a WRB to their buyer.  If they did not, there might have been no impact on the sales price and they therefore might have no damages.  And they certainly did not have a continuing interest in the installation of a WRB, no longer being owner of the house.

Did Judge McGuire have the power to modify Judge Jolly's order certifying the class?  If Judge McGuire were a federal judge, yes.  But as a state court judge, maybe not.  The NC Court of Appeals held ten years ago that:

Clearly, the federal rule contemplates continuing review of the class certification status of an action. See 3B Moore's Federal Practice ¶ 23.50 at 23-410. Rule 23 of the North Carolina Rules of Civil Procedure contains no such provision, Nobles v. First Carolina Communications, 108 N.C.App. 127, 423 S.E.2d 312 (1992), rev. denied 333 N.C. 463, 427 S.E.2d 623 (1993), and we will not judicially legislate one.

Dublin v. UCR, Inc., 115 N.C. App. 209, 444 S.E.2d 455, 461 (1994).

But given that a class certification order is an interlocutory order, Judge McGuire held that Judge Jolly's order was:

'subject to change at any time to meet the justice and equity of the case' and [was] 'modifiable for changed circumstances.'

Order ¶9 (quoting Dublin, supra, 115 N.C. App. at 220). 

He said, however,  that there would have to be "a change in circumstances since [the date of the certification order] that has altered the legal foundation upon which Judge Jolly based his decision to certify the class." Op. ¶10.

As to the homeowners who had purchased from the Pre-Notice Sellers, Judge McGuire ruled that Judge Jolly had "at least impliedly" considered the existence of persons buying the homes before the class was certified, and that he had not intended to limit the class to those who had purchased their homes directly from KB Homes.  The existence of the homeowners buying their homes from the Pre-Notice Sellers was therefore not a "changed circumstance warranting modification of the class definition. Op. ¶16.

The Home Owners Who Had Sold Their Homes After The Class Was Certified Became Members Of A Subclass

Judge McGuire rejected the argument that the potential that the Post-Notice Sellers might have different damages from other class members (in that they would not need the benefit of an WRB being installed or that they might not have suffered damage upon the sale of their home) was a "changed circumstance warranting modification of the class.  He said that:

such individual differences in damages, by themselves, are not sufficient to defeat class certification where they do not predominate over common questions of law or fact affecting an entire class.

Op. ¶22.

But the Post-Notice Sellers nevertheless did represent a "changed circumstance."  That was due to the reason that the Post-Notice Sellers would need to individually establish that they had suffered any injury at all.

The overarching common question in the case remains whether KB Homes complied with the building code and the manufacturer's recommendations regarding the need for a WRB.  (Judge McGuire recently denied KB Home's motion for summary judgment on this issue in another unpublished Order).

borrowing from the U.S. Supreme Court''s recent Wal--Mart decision on class certification, Judge McGuire held that:

'[w]hat matters to class certification . . . is not the raising of common "questions" -- even in droves -- but, rather the capacity of a class-wide proceeding to generate common answers apt to drive the resolution of the litigation.  Here, the answer to the question of whether the failure to install a WRB violated the then-existing building code will ''drive the resolution' of Plaintiff's claims.

Op. ¶26 (quoting Wal-Mart Stores v. Dukes, 131 S.Ct. 2541, 2550-511 (2011)).

The "changed circumstances" allowed a modification of the class definition to create a sub-class of the Post-Notice Sellers.  Counsel for the class were directed to add a named Plaintiff who was a Post-Notice Seller to represent the interests of the class. Op. ¶29.

Are you confused about which homeowners are in this class and which are not?  Here's my take on that:

Time of Transaction In Or Out Of Class?
Sold before class notice Out (neither party sought their inclusion (Op. ¶14 & n.18)
Bought before class notice In
Sold after class notice In
Bought after class notice Out

II haven''t written about a class action issue for a while given the entry of the Robinson Bradshaw firm into the elite class of law firms with blogs.  Lawyers there write an excellent blog devoted entirely to the subject of class actions in North Carolina: the Carolinas Class Action blog.


Continue Reading...

Court Of Appeals Affirms Business Court Award Of $1 Million In Fees To Class Counsel

It seems like forever ago that the then venerable North Carolina institution, Wachovia Bank, failed and was acquired by Wells Fargo.  (This was actually seven years ago).  But just last week came what might be the final closure in the battle by the lawyers representing the class which challenged that acquisition to be paid their "well-deserved fees."  If you don't detect the sarcasm in that last sentence, you can read what I've previously written about that fee application here and here.  I'm not a fan.

But putting aside my venom, last week the NC Court of Appeals, in Ehrenhaus v. Baker, affirmed Judge Murphy's March 2014 Order awarding class counsel slightly over $1 million in fees and expenses.  The COA didn't assess the reasonableness of that fat fee, it said that Judge Murphy had properly assessed it in his 2014 Order.

The value in the decision from the Court of Appeals is for lawyers representing class plaintiffs in future class action settlements.  North Carolina, in this ruling, has embraced the concept that class action settlements can include an agreement for the defendant to pay attorneys' fees.

Perhaps you are thinking that there is nothing unusual about a settling party agreeing to pay the opposing party's legal fees.  Defendants often agree to pay the plaintiff's attorneys' fees as a part of a settlement.  But in the class action context, the creation of a common fund was the only exception previously recognized in North Carolina to the "American Rule."  The American Rule provides that "a successful litigant may not recover attorneys' fees . . . unless such a recovery is expressly authorized by statute."  Op. at 17.

Some other jurisdictions recognize the "common benefit" doctrine as a second exception to the American Rule when a class action is involved.  North Carolina rejected that basis for fees -- which allows an award when the class plaintiff "confers a common monetary benefit on the class" -- in In re Wachovia Shareholders Litig., 168 N.C. App. 135, 139, 607 S.E.2d 48, 50-51, disc. rev. denied, 359 N.C. 411, 613 S.E.2d 25 (2005).

The COA approved the award of fees to the Ehrenhaus class'  lawyers by recognizing a third exception to the American Rule.  Judge Davis wrote:

we hold that the parties to a class action may agree to a fee-shifting provision in a negotiated settlement that is -- like all other aspects of the settlement -- subject to the trial court's approval in a fairness hearing.  During the fairness hearing, the trial court must carefully assess the award of attorneys' fees to ensure that it is fair and reasonable.

Op. at 22 (emphasis added).

This decision isn't big news to the Business Court.  The Court has been assessing the reasonableness of fees paid to class counsel via a negotiated settlement for a long time, at least since its decision in In re Harris-Teeter Merger Litig., 2014 NCBC 44, in which Chief Judge Gale thoroughly examined the Court's power to award fees as the result of a class action settlement (in ¶¶51-57).

I'm not sure if this is the final chapter in the effort by the class' attorneys to obtain the fees that they requested.  You might remember that Judge Murphy denied any award of fees to the North Carolina attorney co--lawyering with Mr. Ehrenhaus' New York counsel.  The Business Court awarded nothing to him even though there was a valid fee sharing agreement between him and Ehrenhaus' out of state counsel which specified that local counsel would receive five percent of the total fee.  Since local counsel offered no evidence of the time expended or his hourly rate the Court could not determine whether the five percent (which would have been more than $50,000) was reasonable.

Judge Davis dropped a footnote in the COA decision saying that "[w]hile we express no opinion on this issue, we note that Judge Murphy's Order does not contain language foreclosing the possibility of [NC counsel] ultimately being deemed entitled to receive some portion of the attorneys' fees at issue."  Op. at 26 & n.3.

Even so, it's probably a little bit late in the day for Mr. Ehrenhaus' local counsel to apply to the Business Court for fees.


Minority Shareholder Owed No Fiduciary Duty To Other Shareholders In Merger Transaction

Judge Gale's decision earlier this month in Corwin v. British American Tobacco PLC, 2015 NCBC  74 dismissed all of the claims of the Plaintiff class.  If the name Corwin is ringing a bell with you, his case is the shareholder class action over the now completed transaction among Reynolds American, Inc. (RAI), Lorillard, Inc., British American Tobacco (BAT), and Imperial Tobacco Group.  RAI (which you probably still think of as RJ Reynolds Tobacco Company) is the second largest tobacco company in the United States.  Defendant BAT  is RAI's largest shareholder, holding 42% of its stock.  RAI acquired Lorillard (then the third largest tobacco company in the U.S.) in the transaction.

BAT helped fund RAI's purchase of Lorillard (for $27.4 billion) by buying approximately $4.7 billion in RAI stock in order to maintain its 42% ownership of RAI.  RAI funded the remainder by selling of several of its popular cigarette brands to Imperial Tobacco Company, a tobacco holding company headquartered in Bristol, England.

Corwin's action asserted that BAT and RAI's  board of directors had breached their fiduciary duty of candor to him and other BAT shareholders by making inadequate disclosures regarding the transaction.  The claim that the disclosures were inadequate were resolved by a settlement in January 2015.  You can read that settlement agreement here.

Did BAT, RAI's 42% Shareholder, Owe A Fiduciary Duty To RAI's Minority Shareholders?

The issue before Judge Gale was whether BAT, which held only 42% of RAI's shares and was therefore not a majority shareholder of RAI's stock, owed any fiduciary duty at all to Corwin and the class of minority shareholders which he was seeking to represent.

North Carolina Law

If you are thinking that in North Carolina only majority shareholders owe a fiduciary duty to minority shareholders, and are skilled enough at math to know that 42% is not a majority, then you are dead on target.  Judge Gale wrote that "North Carolina courts have never squarely addressed whether a minority shareholder can exercise control adequate to impose such a fiduciary duty."  Op. ¶46.

Corwin argued that a fiduciary duty should be imposed because North Carolina precedent turned on whether the shareholder exercised "dominance and control, which can exist without majority ownership or voting control."  Op. ¶46.

To be fair to Mr. Corwin, loose language (you might say dicta) in North Carolina appellate decisions can be read to support the position that a minority shareholder's control (absent majority ownership) of a corporation can result in that shareholder owing a fiduciary duty to its fellow shareholders.  Judge Gale cited the following cases for that proposition:

See, e.g., Hill v. Erwin Mills, 239 N.C. 437, 444, 80 S.E.2d at 358, 363 (1954)("It is the general rule that when the fairness of transactions between a corporation and one dominating its policies is challenged, the burden is upon those who would maintain such transactions to show their inherent fairness to all parties concerned."); T-WOL Acquisition Co. v. ECDG S, LLC, 220 N.C. App. 189, 208 n.8, 725 S.E.2d 607, 617 n.8 (2012) ("[C]ontrolling or majority shareholders owe a fiduciary duty to minority shareholders in a closely held corporation." (emphasis added)); Freese v. Smith, 110 N.C. App. 28, 37, 428 S.E.2d 841, 847 (1993) ("In North Carolina, it is well established that a controlling shareholder owes a fiduciary duty to minority shareholders."); . . . .  Fulton v. Talbert, 255 N.C. 183, 185, 120 S.E.2d 410, 412 (1961) ("[W]here the corporation is so dominated and controlled by a wrongdoer as to be powerless to act, minority stockholders may bring the action, making the corporation a party.").

Op. ¶53.  Judge Gale, upon reviewing those cases, concluded that none of these North Carolina cases held that a "controlling shareholder must be a majority owner" but that in each case imposing a fiduciary duty, "the shareholder subject to that duty either owned or had control over a majority interest."  Op. ¶51.  He said that North Carolina precedent:

leaves open the specific question of whether a minority shareholder can exercise the degree of control . . . adequate to impose a fiduciary duty on that shareholder.

Op. ¶53.

The argument that North Carolina would impose a fiduciary duty on a non-majority shareholder therefore failed, Judge Gale then turned to Plaintiff's argument that Delaware law placed a fiduciary duty on a "controlling" -- even if minority -- shareholder.

Delaware Law Says That A Minority Shareholder Can Owe A Fiduciary Duty Under Certain Circumstances

The Delaware cases on which Corwin relied in support of his fiduciary duty argument were distinguished by Judge Gale as requiring "actual, rather than theoretical control" before imposing that duty.  Op. ¶56.

There is a presumption in Delaware "that a shareholder who owns less than fifty percent of the outstanding stock of a corporation is not a controlling shareholder.  Op. ¶56.

Getting past that presumption requires detailed allegations of actual control.  Judge Gale said that:

Delaware courts impose a significant pleading burden to allow a fiduciary claim against a minority shareholder and will dismiss such a claim under Delaware's Rule 12(b)(6) in the absence of sufficient allegations.

Op. ¶56.

Corwin's Complaint contained "significant detail," (Op. ¶62), which Corwin said demonstrated BAT's control over RAI (summarized in ¶62 of the Opinion), including a "Governance Agreement," between RAI and BAT which gave BAT veto power over whether certain intellectual property of RAI could be sold to complete the deal and a variety of other factors.

Judge Gale said, after reviewing Corwin's argument, that BAT had influence over the transaction but that "[i]nfluence does not equate to control and the potential imposition of a fiduciary duty turns on evidence of actual control."  Op. ¶63.

The conclusion of the Court was that even if North Carolina were to follow the Delaware standard, that the Complaint's allegations did not:

adequately allege that BAT's control over the Transaction was considerable enough to be the voting and managerial equivalent of a majority shareholder's control, or so potent that the independent Other Directors were unable to exercise their judgment freely with[out] fearing BAT's retribution.

Op. ¶65 (citation omitted).

The Court went on to dismiss fiduciary claims against the RAI directors.  That dismissal involved a discussion of whether a shareholder has standing to bring a direct claim against a member of a board of directors. That sort of claim is generally brought on a derivative basis.  Judge Gale sidestepped the standing issue, ruling that the attempted claim against the RAI directors failed on the merits..Op. ¶74..

What's Next

Given Corwin's marked lack of success on his claims regarding the RAI Transaction,  I'm wondering how much Corwin's counsel will dare to ask for in fees for getting the "disclosure only" settlement which they obtained in January of this year.  My views on the value of such settlements are that they often bring little value to the members of the shareholder class obtaining them and that the fees awarded should take that into account.

Judge Gale directed Corwin's counsel to file a motion for approval of their settlement before the end of August.  We will soon see if this settlement will spin off a sizeable fee.



When You Wish Upon A (Lode)Star: NC Business Court Cuts Fees Requested By Attorneys For Class Plaintiffs

The Business Court last week knocked down a fee request of Plaintiffs' class action counsel to $500,000, from the $660,000 requested, in an Order in Nakatsukasa v. Furiex Pharmaceuticals, Inc., 2015 NCBC 68.

The Settlement Of The Class Action

The ruling was entered in conjunction with the approval of a settlement of four class actions (two filed in North Carolina and two filed in Delaware).  The lawsuits concerned a challenge to Defendant Furiex's merger with Defendants Royal Empress, Inc. and Royal's affiliate Forest Laboratories, Inc.

As a part of the settlement, Plaintiffs' counsel reserved the right to apply to the Court for approval of fees not to exceed $695,000.  Given that the Defendants had waived their right to challenge the fee application, it fell to Judge McGuire to determine whether the fees requested were reasonable.

If the first question in your mind is "how much money did the Plaintiff obtain for the class?", the answer is none.  The claimed value to the class came in the waiver of "DADW provisions" in Confidentiality Agreements executed by the Defendants Royal Empress and Forest Laboratories as well as other potential buyers of Furiex.  There were also some additional disclosures obtained via the settlement.  (If you don't know my feelings about the value contained in disclosure only settlements, you haven't been reading this blog.)

DADW Provisions?

The NC Business Court hasn't had the opportunity to consider the viability of DADW -- don't ask, don't waive -- provisions,  but the Delaware Court of Chancery has ruled that they are not presumptively impermissible. If you are wondering what a DADW provision does, it prohibits the entity signing it from making an offer for the target corporation's shares without an express invitation from the target's Board of Directors. The "don't ask" aspect prevents the signing party from asking the target's Board to waive that restriction.

Since the Court didn't discuss the validity of the DADW provision at all, except to say that the waiver of it procured by the litigation was "a significant benefit to shareholders," (Order  ¶41), the validity of this type of deal protection device in North Carolina remains untested.  Given that the Court accepted Plaintiffs' counsel's argument that they had obtained value for the class  in the waiver of the DADW restriction (meriting fees of half a million dollars), lawyers in North Carolina should be cautious about including DADW's in their merger related documents . 

The lawyers for the class (two New York class action firms) had a pretty high opinion of the value that they had obtained for the class.  The requested that the Court allow $660,000 in fees for 700 hours of work. 

You don't need to do the math to figure the hourly rate that those figures yield. Judge McGuire calculated it at a staggering $941.72 per hour (Order ¶35), which was triple the hourly fee the Business Court had approved in a previous class action (In re Harris Teeter Merger Litig., 2014 NCBC 44) and seven times the hourly fee awarded in another class action approval (In re Progress Energy Shareholder Litig., 2011 NCBC 44).

The Business Court Refused To Apply A Multiplier To Plaintiffs' Counsel's Lodestar

The $660,000 sought was based on a request for a multiplier of 1.7 to be applied to the lodestar amount established by  Plaintiffs' counsel's regular billing rates (that was $388,465).  A "lodestar," if you are not familiar with the term, Wikipedia defines it as "a method of computing attorney's fees whereby a trial court must multiply the number of hours reasonably spent by trial counsel by a reasonable hourly rate."

Judge McGuire observed that no reported North Carolina appellate decision had ever applied a multiplier to increase a lodestar amount (Order ¶35), so he decided that the "best course is to assess the requested fees as if Plaintiffs were seeking an award of $941.72 per hour, and to consider such request based on whether special legal skills  and experience were involved that are not available in North Carolina, the rates charged by attorneys for comparable work in the local area, and in light of the result obtained for the amount of work expended."  Order ¶35.

Were North Carolina attorneys capable of handling this litigation?  The Plaintiffs' local counsel represented to the Court that "he did not believe there were a substantial number of attorneys in North Carolina prosecuting this type of shareholder action."  Order ¶36.  Judge McGuire said that the lack of specific information whether there were North Carolina attorneys qualified to handle the case warranted in favor of a "premium rate."  Id.

The Court Said That A Fee Award Of $941.72 Per Hour Would Be "Extraordinary"

Looking at the electronic docket sheet in the case, Plaintiffs' counsel did little more than filing a Complaint, a Motion for Expedited Discovery, and a Motion for approval of the settlement that they brokered.  On top of that, they took two depositions and reviewed only a thousand pages of documents.  Order ¶39. Maybe the case did require supremely qualified counsel not available in NC.

The rates "generally charged for sophisticated business litigation in North Carolina" were deemed to be $321.91 per hour (found to be "reasonable in In re Harris Teeter, 2014 NCBC 44 at ¶63), although Judge McGuire said that "his own experience is that rates of approximately $300 - $550 per hour are typical of the fees charged for this type of work in Wake County, North Carolina.  Order ¶37.

Looking at the substantially higher hourly fee of $941.72 sought by Plaintiffs' counsel, Judge McGuire deemed it to be an "extraordinary amount" (Order ¶41).

The Judge exercised his discretion and awarded $500,000 in fees.  Order ¶42.  That yielded an hourly rate of $712.96, still a pretty impressive award.  And notwithstanding Judge McGuire's rejection of the application of a multiplier, I calculate that as a multiplier of 1.28711724 on the lodestar of $388,465.








NC Business Court Gives Full Faith And Credit To LegalZoom's California Class Action Settlement

There are probably some of you who lie awake at night wondering whether Leagalzoom's offering of do it yourself lawyering products will be found to be the unauthorized practice of law (UPL) in North Carolina.

For those few of you, that uncertainty will continue.  At the end of last week, Judge Gale issued an opinion in Bergenstock v., Inc., 2015 NCBC 49, dismissing a putative class action by Plaintiffs seeking to represent all North Carolina residents who purchased Legalzoom products or services.  The claims were for UPL, unjust enrichment, and violations of the North Carolina Unfair and Deceptive Trade Practices Act.  Op. ¶28.

The Judge dismissed the complaint, but he did not make a ruling as to Legalzoom's business model, nor did he address the question whether its services constitute UPL.  The resolution of that issue will have to come in the still pending case brought by LegalZoom against the NC State Bar:, Inc. v. North Carolina State Bar.  See here for my last update on that case.

The reason for the dismissal in the Bergenstock case was the full faith and credit given to the settlement of a similar class action in 2012 in California (known as the Webster case).  Webster had sued Legalzoom on behalf of a nationwide class.

The Webster Settlement

The Webster settlement covered all claims:

asserted or that could have been asserted [in that case] arising out of the LegalZoom website, any materials available on or through the LegalZoom website . . . the unauthorized practice of law, or the purchase or use of documents prepared through LegalZoom.

Op. ¶17.

In consideration for the settlement, LegalZoom agreed to provide sixty days of free enrollment in its prepaid legal services Programs.  As Judge Gale described those Programs (known as the LegalZoom Legal Advantage Plus Program [for individuals] and the Business Advantage Pro Program [for businesses]), they involve:

services provided by licensed attorneys, including telephone consultations; review and written summary of legal documents; an annual legal checkup (which would be provided to Webster class members in the free sixty-day period), including a written summary and recommendations for legal documents and strategies; a ten percent discount on all LegalZoom products; access to the LegalZoom form library; electronic document storage; and a twenty-five percent discount on legal services not included under the Programs, but provided by a participating firm.

Op. ¶18.

The challenge presented by the Bergenstock putative class was that those Programs were not available in North Carolina.  (That is true, as the NC State Bar has refused to approve the Programs.  That refusal is the subject of litigation between the State Bar and LegalZoom.  Op. ¶20).  The Settlement dealt with members who did not live in states where those Programs were available by providing them with the lesser of (i) $75.00, or (ii) half of the current base price of the document that the class member had purchased from LegalZoom.  Op. ¶19.

The Bergenstock Plaintiffs said that they had not received due process in the Webster settlement because there was no counsel representing their interests and there was no named class representative who had interests in common with them.  They further argued that the California Court approving the settlement had not considered the adequacy of the alternative payment to the class members who did not have the LegalZoom payments available to them.  They asserted that the settlement was not entitled to full faith and credit as to them.

Full Faith And Credit To Class Action Settlements

The main road block faced by the Plaintiffs challenging the effect of the Webster settlement lies in a U.S. Supreme Court decision holding that:

a judgment entered in a class action, like any other judgment entered in a state judicial proceeding, is presumptively entitled to full faith and credit.

Matsushita Elec. Indus. Co. v. Epstein, 516 U.S. 367, 374 (1996), under 28 U.S.C. § 1738 (2014).

The North Carolina appellate courts have accordingly held that courts should:

apply only a “very limited” scope of review when determining whether a foreign judgment is entitled to full faith and credit, with the inquiry limited to whether jurisdictional and due process considerations were “fully and fairly litigated and finally decided” by the court rendering judgment.

Op. Par. 32 (citing Boyles v. Boyles, 308 N.C. 488, 491, 302 S.E.2d 790, 793 (1983); Moody v. Sears Roebuck & Co., 191 N.C. App. 256, 275–76, 664 S.E.2d 569, 581–82 (2008).

If the out-of-state court found  jurisdiction and due process to have been "fully and fairly litigated" and they were finally decided, a "North Carolina court extends full faith and credit without further inquiry."  Op. ¶32.

The Bergenstock Plaintiffs argued that the California court had not specifically considered the adequacy of the settlement amount paid to persons living in states where LegalZoom's programs were not offered and that they therefore had not been afforded due process.

Judge Gale refused to accept that argument, holding that:

the record does not allow for this parsing of the settlement consideration. The full settlement consideration, including the consideration provided to the Alternative Payment Plaintiffs, was before Judge Highberger [the California Judge approving the settlement] for his review. The Court cannot infer that Judge Highberger failed to consider the adequacy of representation of or the adequacy of consideration for the Alternative Payment Plaintiffs merely because he did not make express findings in that regard. He made findings that the overall settlement was fair and reasonable and that the Settlement Class had been adequately represented. The Court then must conclude that the issues Plaintiffs now seek to litigate in this Court were fully and fairly litigated and finally decided by Judge Highberger.

Op. ¶41.

Is It Worth It For Plaintiffs' Counsel To Gamble On Merger Class Actions in North Carolina?

I hadn't written anything yet about the multiple shareholder actions challenging the merger of PokerTek -- a developer and distributor of electronic table (gambling) games -- with Multimedia Games -- another developer and distributor of gambling technology.

The transaction was valued at $12.6 million, making it one of the lowest value mergers ever attacked in the Business Court.  But the transaction generated five cases filed last year, shortly after the announcement of the transaction, by six shareholders named Simmer, Weber, Dabord, Lobo, Stephens, and Sandler (Weber and Dabord paired up as co-plaintiffs in their case).

Each case asserted various claimed violations of fiduciary duty by the PokerTek board, and alleged that PokerTek had made inadequate disclosures in its description of the transaction.  PokerTek and Multimedia were alleged to have aided and abetted the directors' claimed breaches of fiduciary duty.  The case was settled in July of 2014.  The settlement focused on the disclosure-based claims, and PokerTek made supplemental disclosures in a Form 8-K filing per the settlement.

PokerTek's shareholders voted overwhelmingly (96% to 4%)  to approve the merger ten days after the supplemental disclosures were filed.

The Plaintiffs Had No Viable Claims, Except Perhaps Their Disclosure Claims

The decision of counsel for the class (which was certified by Judge Bledsoe in the Order and Final Judgment, 2015 NCBC 8), to settle the case for the additional disclosures was deemed by the Court to be "prudent and reasonable."  Order ¶42.  That was kind, and the Judge was equally kind in not saying outright that the other claims brought by the shareholders were likely to be losers.

Even so, he expressed serious uncertainty whether they had any chance of succeeding.  He said that "there is nothing in the record to suggest that Plaintiffs' claims are strong enough to justify further litigation."  Order ¶38. 

He then ticked through the relatively valueless claims.  He said that if the Plaintiffs' claims were deemed to be derivative, that the Plaintiffs "faced a significant standing hurdle in light of [their] failure to make statutory demand on PokerTek."  Order ¶39.  He also expressed doubt over whether the claims against PokerTek's directors "could overcome the evidentiary presumption afforded by the business judgment rule."  Order Par. 40.  And to the extent that the Plaintiffs took a run at holding the corporate defendants liable on an aiding and abetting breach of fiduciary duty theory, Judge Bledsoe said that those claims faced "substantial risk . . .  because it is unclear whether North Carolina recognizes this cause of action."  Order ¶41.  I've written at least a couple of times on this blog about the questionable viability of such a claim.  See here, and here.

When Are Disclosures "Material"?

So, the only claim with any value on which to base a settlement was the disclosure claims.  And all the preamble in this post leads up to whether Plaintiffs' counsel were entitled to any fees for obtaining this settlement.

Well, were the disclosures obtained by the Plaintiffs "material" to the transaction?  The standard for this is that "a disclosed fact is material if there is a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the 'total mix' of information made available."  Order ¶43.

Judge Bledsoe, relying on precedent from the Delaware Court of Chancery, found the supplemental disclosures to fall into "the sort of information that the Delaware Chancery Court has recognized may be material."  Order ¶44.  This included:

  • information necessary for discounted cash flow analyses;
  • comparative financial information, including enterprise value/EBITDA and enterprise/revenue multiples for companies selected as comparable by PokerTek's financial advisor; and
  • information regarding PokerTek's engagement of a financial advisor and of the business relationship between PokerTek, Multimedia, and the financial advisor.

Order ¶44.

Would this type of information be significant to a "reasonable investor"?  Well, you might have read about the recent hoopla surrounding Jonathan Gruber's statements with regard to the Affordable Care Act, when he said that the ACA passed due to the "stupidity of the American voter."  I don't think that the mythical "reasonable investor" is stupid, but I doubt that he or she cares very much about the matters that Judge Bledsoe referenced.  Of course, there is the possibility that the "reasonable investor" is an institutional investor which might attach more importance to matters like a discounted cash flow analysis and enterprise/revenue multiples.  But even so, the supplemental disclosure about the relationship between PokerTek, Multimedia, and the financial advisor which was obtained as a price of the settlement was that the financial advisor had never previously performed services for either company.

The Award Of Attorneys' Fees

So, if you are with me on the lack of value of these disclosures, how much were Plaintiffs' counsel entitled to for their arduous efforts in obtaining them?  The Court awarded $140,000 in fees and expenses, the amount which the Defendants agreed to pay in the settlement agreement.

How did the parties arrive at that figure?  Plaintiffs' counsel collectively devoted about 500 hours to the case.  What did they do in that time?  They "retained an expert, reviewed and analyzed approximately 3,100 documents, prepared a motion for preliminary injunction with supporting briefs, and undertook confirmatory discovery after" entering into a Memorandum of Understanding regarding the settlement.  Order ¶57.

The hourly fee awarded counsel broke down to $226.83 per hour, which the Court found to be in line for rates for North Carolina counsel.  Judge Bledsoe noted that Plaintiffs' counsel, several of whom were from major metropolitan centers, usually charged substantially more for similar work and were taking a sizeable haircut off their usual attorney rate of $553.26 per hour.

That really wasn't a very rich recovery for the six law firms representing the Plaintiffs.  If the $140,000 is divided equally, that's only about $23,000 per firm.  It seems hardly worth the effort.  An agreement reflecting the division of the fees among the law firms is buried in the filing for the fee award (the percentages range from 45% to 5%).  That makes the work even less lucrative.

This award of $140,000 is in line with -- and actually a fair amount less than -- other fee awards by the Business Court in disclosure-only class action settlements. See, e.g. In re Progress Energy S'holder Litig., 2011 NCBC 45 ($550,000); In re PPDI Litigation, 2012 NCBC 33 ($450,000); In re Harris Teeter Merger Litig., 2014 NCBC 44 ($325,000).

The glaring outlier in the history of these fee awards in the Business Court is the $1 million plus awarded by the Court in the litigation over the Wachovia/Wells Fargo merger litigation, which is now before the NC Court of Appeals.  Perhaps the COA will undertake the analysis of the materiality of the disclosures obtained by the Plaintiff in that case.  I've previously written about my dismal opinion of the quality of those disclosures, and my disappointment at the Court's approval of a more than a million dollar fee.

I'm not the only one complaining about the fees obtained by the lawyers for the class plaintiffs in these merger related actions.  Judge Tennille, before he retired, wrote about what he condemned as "stinky fees."

Still, these types of lawsuits are certainly good for the legal economy and for the North Carolina lawyers called upon to defend them.

And there will be one more merger class action fee decision coming down this year from the Business Court in which there will undoubtedly be a large application for a fee award.  That's the merger of R.J. Reynolds and Lorillard, in which a disclosure only settlement was recently announced.

If deal value is a factor in a fee award in a disclosure-only settlement, which it appears to be, then the Reynolds/Lorillard deal, valued at $25 billion, will spin off substantially larger fees than the PokerTek class actions (in which the deal was worth, by comparison, a paltry 12.5 million).

But should deal value be a factor?  Shouldn't it be the value of the disclosures?

Business Court Resolves A Trio Of Discovery Issues

Three interesting discovery issues were resolved last week by Judge Bledsoe's Order in Gay v. Peoples Bank.  First, can you obtain in discovery in a class action the fee arrangement between the plaintiff and his  lawyers?  Second, can you obtain (in any kind of case) a protective order against the deposition of your client's top executives?  And third, can you refuse to respond to an interrogatory asking you to identify the witnesses you intend to call at trial?

The answers to those very questions are contained in the Order.

Discoverability Of Engagement Letters In Class Actions

Gay is a purported class action against Peoples Bank regarding overdraft charges.  Peoples asked Gay to produce "letters or other forms of agreement concerning the terms of [Plaintiff's] representation by [his] lawyers in the case."  Order ¶2.

Gay responded that the engagement letter was privileged and not relevant to the subject matter of the litigation.

Judge Bledsoe observed that this was a case of first impression in North Carolina, stating that "[t]he North Carolina appellate courts do not appear to have addressed the production of an attorney fee agreement in a purported class action."  Order  ¶13.

But multiple federal courts have ruled on this issue and have generally held that fee agreements are not relevant to the issue of class certification.  See, e.g., Stanich v. Travelers Indem. Co., 259 F.R.D. 294, 322 (N.D. Ohio 2009)("Most courts . . . find [discovery of fee agreements] irrelevant to the issue of class certification, except perhaps to determine whether the named plaintiffs and class counsel have the resources to pursue the class action.").

Fee agreements can become relevant later in a case, however, if the class obtains a judgment or a settlement in its favor.  See, e.g., Porter v. NationsCredit Consumer Disc. Co., 2004 U.S. Dist. LEXIS 13641, *7 (E.D. Pa. 2004)('[f]ee agreements may be relevant . . . to the question of awarding attorney's fees upon settlement or judgment.").

Judge Bledsoe said that he found the federal cases persuasive, and ruled that the fee arrangement between Gay and his counsel was not relevant to the subject matter of the case and therefore not subject to discovery.  He denied the Bank's Motion to Compel without prejudice to its renewal at a later stage in the case.

But the Bank was successful at this point on a couple of separate issues: to prevent two of its top executives (its CFO and its Chief Administrative Officer) from being deposed, and to avoid having to respond to an interrogatory asking it to identify its witnesses for trial.

Protective Order Against Discovery Of Top Executives

The Bank said that five of its Officers had already been deposed and that further depositions of its C-level officers would be unduly burdensome, unnecessary and repetitive.

The Court gave a passing nod to something known as the "apex doctrine."  Judge Bledsoe wrote that:

[u]nder the apex doctrine, 'before a plaintiff may depose a corporate defendant's high ranking officer, the plaintiff must show how "(1) the executive has unique or special knowledge of the facts at issue and (2) other less burdensome avenues for obtaining the information sought have been exhausted."'

Order ¶18 & n.4 (quoting Smithfield Business Park, LLC v. SLR Int'l Corp., 2014 U.S. Dist. LEXIS 16338, *6 (E.D.N.C. 2014)).

But the Judge didn't go down the road of accepting the apex doctrine.  He accepted the Bank's argument that the additional depositions of the chief officers were unnecessary and that they would disrupt the Defendant's operations. He ordered that the depositions not be taken.

You Don't Have To Identify Your Trial Witnesses Before Trial

The Court also dealt with the issue whether the Bank was obligated to identify the witnesses it would be calling at trial so that the Plaintiff could decide whether to depose them before the end of discovery.  Apparently the Plaintiff's counsel raised this issue at a hearing, and had not served an interrogatory asking for this information. 

Judge Bledsoe observed that "[i]t is axiomatic that Defendant is not obligated to provide answers to interrogatories that Plaintiff has not yet served."  Order ¶23.

But even if an interrogatory requesting that information had been served, it would have been denied.  Judge Bledsoe stated that:

North Carolina law is clear that 'a party is not entitled to find out, by discovery, which witnesses his opponent intends to call at the trial.'

Order ¶24 (quoting King v. Koucouliotes, 108 N.C. App. 751, 755, 425 S.E.2d 462, 464 (1993)).

The Bank is represented by Reid Phillips and Dan Smith of Brooks Pierce.




A Million Dollars In Fees For Class Counsel in Wachovia/Wells Fargo Merger Lawsuit

When I first looked at Judge Murphy's (unpublished) Order in Ehrenhaus v. Baker earlier this month awarding attorneys' fees to the class action attorneys who sued Wachovia and Wells Fargo over their merger in 2008,  I was disappointed, though the Judge was following a mandate from the Court of Appeals.

He awarded $1 million in fees and expenses ($1,056,067.57 to be exact) to the NY lawyers representing the class.  That ruling came following a decision from the NC Court of Appeals reversing a previous award of fees in that case (by Judge Diaz) and remanding the fee determination to the Business Court.

Judge Murphy had assessed that his "sole directive" on remand was "to determine whether Plaintiff's attorney's fee award request of $1.5 million is reasonable in light of Rule 1.5 of the RPPC."  (the Revised Rules of Professional Conduct).  Order ¶14.

The Lawyers Got Much Less Than They Had Requested

My disappointment stems from my perspective that the Ehrenhaus lawsuit achieved absolutely nothing of value for Wachovia's shareholders, except for obtaining a more detailed proxy statement containing additional (and to me, pointless) disclosures about the merger transaction.  So why did the lawyers deserve anything at all, let alone a million dollars? 

But after shedding a few tears for the widows and orphans who were holding Wachovia stock and their undoubtable anger at a million dollars for lawyers who obtained nothing of value for them , I came to the conclusion that this was a pretty good shellacking of the lawyers for the class.   After all, they had asked for almost twice that amount ($1,975,000) to start with and had to wait for years to get paid (though there's no telling whether they will have to wait longer as there might be another appeal of this fee award).

And in this most recent round, they had asked for $1.5 million, requesting that a "contingency multiplier" be applied to the fee generated by the hours (over 3,000 hours) they spent on the case at their hourly rate.  Judge Murphy rejected that request because there was no contingent fee agreement signed by the class representative.  RRPC 1.5(c) says that "[a] contingent fee agreement shall be in a writing signed by the client."  Given the mandatory nature of the Rule, Judge Murphy saw this as "a prerequisite in order to create an effective contingent fee agreement."  Order ¶29.  He ruled that "in the absence of a valid contingent fee agreement between Plaintiff and his attorneys, as required by Rule 1.5(c), any award using a contingency multiplier is unreasonable."  Order ¶30.

If you are wondering about the hourly rates proposed to the Business Court by class counsel, they had previously asked Judge Diaz  for a $750/hour rate, which he had said in 2010 was "far in excess of those normally charged by attorneys in North Carolina."  In their new application for fees, class counsel backed down to a maximum hourly rate of $450, which Judge Murphy ruled "was not excessive when compared with the hourly rates of attorneys engaged in complex business litigation in Charlotte, Mecklenburg County, North Carolina."  Order ¶22.

Oh, and there was very bad news in this Order for Mr. Ehrenhaus' local counsel.  The Court awarded not a dollar to him even though there was a valid fee sharing agreement between him and Ehrenhaus' out of state counsel.  The agreement specified that local counsel would receive five percent of the total fee, but local counsel offered no evidence of the time expended or his hourly rate so the Court could not determine whether the five percent (which would have been more than $50,000) was reasonable.

If you are despondent over the lack of recovery by the North Carolina counsel, Judge Murphy seemed willing to consider the submission of further evidence on the services rendered by him. Order ¶38.

"Disclosure Only" Settlements Should Be Closely Examined For Their Value

Turning back to the reasonableness of the Ehrenhaus fee, there has been quite a bit of judicial discussion recently  about the fees appropriate in "disclosure only" settlements.  In the case of Kazman v. Frontier Airlines, 398 S.W.2d 377 (Texas App. 2013), the Texas Court of Appeals refused to award any attorneys' fees where the only relief for the plaintiff was additional disclosures in SEC filings.

Delaware courts have ruled that they should scrutinize these types of settlements.  The Judges there have taken to asking the attorneys requesting fees in disclosure only settlements to identify which of the disclosures obtained are the most material and thereby evaluating their value.  (See In re PAETEC Holding Corp. Shareholders Litigation (letter opinion).

What would Ehrenhaus' lawyers say about the value of the additional disclosures that they obtained?  What could they have said?  If you want to make that evaluation yourself, you can find the "enhanced" disclosures here.

Maybe I'm being too harsh on the minimal value of this lawsuit for Wachovia's shareholders.  The class did obtain the invalidation of the 18 month "tail" in the merger agreement between Wachovia and Wells Fargo.  That gave Wells Fargo the right to keep its 40% voting interest in Wachovia's stock for 18 months if the shareholders voted against the merger.

But really, what other entity was likely to be deterred from making a better bid for Wachovia as a result of the tail?  Remember that Wachovia was literally hours away from a receivership when Wells Fargo made its offer.  And Judge Diaz ruled in his 2008 opinion that "the sobering reality is that there are few (if any) entities in a position to make a credible bid for Wachovia that would be superior to the Merger Agreement."  2008 NCBC 20 at ¶151.

So was a $1 million fee warranted?  I don't know, but In the old days of the Business Court, Judge Tennille might have condemned these fees as "stinky fees."

Don't get me wrong on my feelings about fees paid to class action counsel.  Sometimes they are well-earned.  For example, just  the other day, notified me that I was getting $13.00 or so in the settlement of the price-fixing class action against it over the pricing of e-books.  (though my Dad pointed out that he only got $3.00)  But what was the award for fees and expenses for the lawyers for the class in that case?  More than $11 million.  I have no problem with that.  They can buy a lot of books.  And they deserve them.

As for the prospects of an appeal of this fee award, that is unlikely to be warmly welcomed by the Court of Appeals.  The Fourth Circuit said yesterday, in a completely unrelated case, that:

[A]ppeals from awards of attorneys fees, after the merits of a case have been concluded,. . .must be one of the least socially productive types of litigation imaginable.

Best Medical Int'l, Inc.  v. Eckert & Ziegler Nuclitec GMBH at 10 (quoting Daly v. Hill, 790 F.2d 1071, 1079 n.10 (4th Cir. 1986).


Don't Sue A North Carolina Board Of Directors Over A Merger Without Reading This Case

Last week's Order in Gusinsky v. Flanders Corp., 2013 NCBC 46, should be required reading for lawyers thinking of suing the directors of a corporation in North Carolina over a merger transaction.  It provides guidance on the duties of directors in those transactions, whether the claims are derivative or direct, and lays down some heightened pleading requirements for some of those types of claims. 

You probably wouldn't be surprised to have never heard of Flanders Corporation.  Flanders, based in Washington, NC, says it is the largest United States manufacturer of air filters.  It was publicly traded until its shareholders approved a sale of the company via a merger in May 2012.

That approval by the shareholders came nearly a year and a half ago, but it was only last week that the NC Business Court dismissed a shareholder class action challenging the merger.  In its Order, the Court dismissed the  claims by the Plaintiff (a trust) for breach of fiduciary duty and for aiding and abetting breach of fiduciary duty.

One claim of breach of fiduciary duty was an alleged failure to "maximize shareholder value" in the sale of the company, which Plaintiff claimed was a duty owed by the directors of Flanders to all shareholders.  The other was an alleged failure to disclose information material to the deal.

There Is Rarely A Fiduciary Duty Owed Directly From A Corporation's Directors To Its Shareholders

In dismissing the claim, the Business Court underscored the principle that directors virtually never owe a fiduciary duty directly to shareholders.  The duty is owed to the corporation, not shareholders. Those claims therefore must be made derivatively, unless the circumstances of the "Barger rule" are met. (I've written about the Barger rule before).

It seems so obvious that this type of claim is derivative that you might be wondering how this class action plaintiff even argued its position.  All it made was a couple of pretty anemic arguments which Judge Jolly shot down.

One was that the General Statutes contemplate fiduciary duties owed directly to shareholders.  Plaintiff said that G.S. Section 55-8-30, which delineates the duties of directors, contains only one reference to a duty to the corporation and that the other duties prescribed therefore must be owed directly to shareholders.

That's so wrong.  The North Carolina Court of Appeals held last year that:

The drafters [of the Business Corporation Act] recognized that directors have a duty to act for the benefit of all shareholders of the corporation, but they intended to avoid stating a duty owed directly by the directors to the shareholders that might be construed to give shareholders a direct right of action on claims that should be asserted derivatively.

Estate of Browne v. Thompson. __ N.C. App. __, 727 S.E.2d 573, 576 (2012)(quoting Russell M. Robinson, II, Robinson on North Carolina Corporation Law § 14.01[2] (7th ed.) (citing Official Commentary, N.C. Gen. Stat. § 55-8-30 (1989)).

The Plaintiff also failed in its argument that it met the requirements of the "Barger rule." Plaintiff struck out on that score because the Flanders directors owed no duty to the class Plaintiff that was personal to the Plaintiff.  The cases that the Plaintiff relied on were cases involving closely held corporations controlled by a majority shareholder.  Judge Jolly found them not to be apposite.

Judge Jolly also ruled that a claim alleging inadequate consideration in a merger transaction was a harm to the corporation itsself, not to shareholders individually.  He said that:

[t]his is so because a claim for inadequate consideration is, functionally, a claim for the diminution of the value of shares held by all Flanders shareholdrs.  Without more, the 'lost value' of all shares of Flanders' stock does not describe an injury peculiar and personal to Plaintiffs.

Op. Par. 32.

You can probably guess the rest of this story.  If you can't, remember that derivative claims require the prospective Plaintiff to make a demand on the corporation to pursue the claim before being allowed to file a complaint.  This Plaintiff made no demand.  As the Court observed, "A plaintiff's failure to fulfill the statuory requirements for bringing a shareholder derivative action [is an] . . insurmountable bar [to recovery]." (quoting Allen v. Ferrera, 141 N.C. App. 284, 287, 546 S.E.2d 761, 764 (2000)).

So the first claim for breach of fiduciary duty for "failure to maxinize shareholder value" was dismissed.



Continue Reading...

North Carolina Business Court Defers To Delaware Courts In Class Action Challenging Sealy Merger

Maybe one day North Carolina will be the center of the business litigation universe, but for now the center of that universe remains in  Delaware.  

The Order last week in Justewicz v. Sealy Corp., 2012 NCBC 57 -- in which the Business Court stayed a North Carolina class action in favor of parallel Delaware class actions -- illustrates that.

The Justewicz case challenges the validity of the sale of Sealy (the mattress company) to Tempur-Pedic, asserting that the sale is overly preferential to Tempur-Pedic and tp Sealy's board members.  Five similar class actions were filed in Delaware, one before the Justewicz case and the other four shortly thereafter.

The defendants in Justewicz moved to stay the case per N.C. Gen. Stat. §1-75.12, which says that: 

If, in any action pending in any court of this State, the judge shall find that it would work substantial injustice for the action to be tried in a court of this State, the judge on motion of any party may enter an order to stay further proceedings in the action in this State. A moving party under this subsection must stipulate his consent to suit in another jurisdiction found by the judge to provide a convenient, reasonable and fair place of trial.

G.S. §1-75.12(a).

In deciding to stay the North Carolina case, Judge Gale looked to several of the twelve factors identified by Judge Tennille in a 2007 decision, Levy Investors v. James River Group, Inc. (unpublished).

He ruled that the case presented an unsettled issue of Delaware law: whether a party could obtain a pre-closing injunction of a consent merger based on a defective process claim, and that this issue was better decided by a Delaware court.  

Also supporting the ruling was a finding that Delaware was at least as convenient a forum with an "equal or greater nexus to the controversy."  That was so even though Sealy is headquartered in North Carolina.  Judge Gale held that "[w]hile North Carolina does have an interest in the takeover of a business located in North Carolina, Delaware also has an interest in a corporation incorporated there and in the application of Delaware law."  Op. ¶34.

Judge Gale also found significant that the Defendants said that they would not protest Justewicz's right to participate in the Delaware cases, and that the Justewicz case had not advanced further than the Delaware cases.

Next, he noted that Delaware has a procedural mechanism allowing for direct review by the Delaware Supreme Court  He said that this "expedited appeal process could be useful."  If you aren't familiar with that expedited process (I wasn't), it is contained in Rule 25 of the Delaware Supreme Court Rules.

Substantial Injustice.  And finally, Judge Gale held that:

 requiring Defendants to defend essentially the same lawsuit in two different states will work a substantial injustice on Defendants and unnecessarily raises the possibility of inconsistent decisions.

Op. Par. 48.

Class Action Defendant Waived Right To Compel Arbitration After Class Action Certification

You probably remember the earlier opinion in Elliott v. KB Home, Inc., in which Judge Jolly certified a class action against the homebuilder KB Home over the improper installation of HardiePlank siding.

Last week, the Business Court ruled in another opinion in the case (2012 NCBC 55) that KB Home had waived its right to seek arbitration of those claims.  The waiver resulted from KB Homes'  delay in asserting its arbitration rights and the expense incurred by the Plaintiffs in litigating in court.

The standard for waiver was set out by the North Carolina Supreme Court in Servomation Corp. v. Hickory Constr. Co., 316 N.C. 543, 544 (1986).  Waiver of the right to compel arbitration occurs when the party with the arbitration right "acts inconsistently with arbitration, and the party opposing arbitration can show it has been prejudiced as a result."  Op. 35.

As for prejudice, that results: 

if [the plaintiff] [a] is forced to bear the expense of a long trial, [b] it loses helpful evidence, [c] it takes steps in litigation to its detriment or expends significant amounts of money on the litigation, or [d] its opponent makes use of judicial discovery procedures not available in arbitration.

Op. 35 (quoting Servomation Corp., supra, at 544).

The Plaintiffs in the KB Homes case had incurred fees and expenses of approximately $100,000 in litigating their claim by participating in four hearings and taking twenty depositions.  Judge Jolly said that:

KB Home's delayed attempt to enforce the arbitration provisions only after Plaintiffs have expended material amounts of time and resources in pursuing their Claims would be prejudicial to Plaintiffs.  Such time and resources were expended after KB Home's right to arbitrate accrued and could have been avoided through an earlier demand for arbitration. KB Home could have demanded arbitration as early as 2008, well before the named Plaintiffs actively litigated the Claims. Permitting KB Home to enforce its arbitration rights now would be inconsistent with the principles of waiver outlined in Servomation.

Op. 39.

The interesting issue from a class action perspective was whether the waiver of the right to arbitration ran to the unnamed class members.  KB Homes said that it couldn't have asserted its arbitration rights against the unnamed class members until the class was certified and that it hadn't delayed in moving to compel arbitration as to them.  

Judge Jolly rejected that argument, saying that it reeked of "gamesmanship."  Op. 41 & n.37.  He ruled that  ruling otherwise would give the Defendant a "second bite at the apple" chance to relitigate the class certification decision with the unnamed plaintiffs.  He relied on an unpublished decision on the point, Kingsbury v. U.S. Greenfiber, 2012 U.S. Dist. LEXIS 94854 (C.D. Cal. 2012).  In Kingsbury, the court stated:

[T]o accept [defendant's arguments and compel arbitration] would be to condone gamesmanship in the class certification process. A defendant could wait in the weeds and delay asserting its arbitration rights. It could file motions to dismiss, litigate the named plaintiff's legal theories, and oppose class certification motions. If and when a class is finally certified, the defendant could simply assert its arbitration rights and defeat certification of the previously-certified class. In the interests of the fair and efficient administration of justice, the Court cannot accept [defendant's] position.

The Business Court adopted the Kingsbury holding "for the same considerations of fairness and the efficient administration of justice."  Op. 41 & n.37.

This isn't the first time that the Business Court has considered a waiver of arbitration issue. Judge Tennille did so ten years ago, in  Polo Ralph Lauren Corp. v. Gulf Insurance Co., 2001 NCBC 3 (N.C. Super. Ct. Jan. 31, 2001) and found that a party had not waived its right to arbitration by pursuing discovery in the court proceeding.


Tailors And Class Actions

 If you think that tailors have nothing to do with class actions, you are wrong.  Judge Jolly denied a motion for class certification last week because the proposed class was not "tailored" as was "practicable under the circumstances." Op.  ¶37 & n.34    The case is Lee v. Coastal Agrobusiness, Inc., 2012 NCBC 49.

Here's the story: Plaintiffs bought an inoculant called N-TAKE from the Defendant to use on their peanut crop.  Instead of enhancing their crop of peanuts, the N-TAKE application resulted in the loss of Plaintiffs' entire peanut crop.  Twenty of the 87 other purchasers of N-TAKE had similar problems and settled their claims with the Defendant.  Plaintiffs didn't settle and sought to represent a class of the remaining 67 purchasers of N-TAKE.  

Plaintiffs alleged that all the other N-TAKE purchasers had suffered similar harm to their peanut  crops,  and were therefore proper members of the proposed class.  But Judge Jolly was not willing to accept that assertion without "at least some demonstration of a causal connection between the purchase and use of N-TAKE by proposed class members and some harm suffered by them as a result."  Op.  36.  He said there was no evidence in the record of losses to the proposed class members.

What led in part to this ruling was the advanced stage of the case.  It was well past the pleadings, and there had been substantial discovery and therefore an opportunity to contact the members of the [proposed class and to confirm their actual losses.  Judge Jolly held:

Our courts have made a distinction between a plaintiff's burden of demonstrating the existence of a class at the pleading stage and the same burden following discovery and a hearing on class certification.  [Crow v. Citicorp Acceptance Co., 319 N.C. 274, 282, 354 S.E.2d 459, 465 (1987)]  Where, as here, there have been ample opportunities  for discovery and a hearing on class certification, Plaintiffs must establish, to the satisfaction of this court, "the actual existence of a class, the existence of other for prerequisites to utilizing the class action procedure, and the propriety of their proceeding on behalf of the class." Id. (emphasis added). At the current stage of these proceedings it is insufficient for Plaintiffs merely to allege the existence of a class. Id. Instead, Plaintiffs must demonstrate the actual existence of a class. Id.

Op.  32 (emphasis in original).

He remarked (in 34) that plaintiffs' counsel had not done anything to contact the potential class members, although the names of all the N-TAKE purchasers had been disclosed by the defendants during discovery.

Further daunting the request for class certification was the Court's perspective that it would "be required to conduct sixty-seven separate trials in order to reach an appropriate damages award as to the class plaintiffs."  Op.  42.

So where does this "tailoring" business come from?  The NC Court of Appeals said in Blitz v. Agean,, Inc., 197 N.C. App. 296, 311, 677 S.E.2d 1 (2009) that a class plaintiff has the burden to "show that he has, through thorough discovery and investigation, presented the trial court with as tailored a proposed class as practicable."  Op.  37 & n.34.



Deja Vu All Over Again (And Again) In Junk Fax Class Action Case

It's about junk faxes and class certification again (and even again) in the Business Court.  Wednesday's decision in Blitz v. Agean, Inc., 2012 NCBC 20 marks the third time the Court has refused to certify a class action under the Federal Telephone Consumer Protection Act.  (The TCPA, 42 U.S.C. §227, prohibits the transmission of "unsolicited advertisements" to fax machines)

The same Agean case had already been the subject of a dismissal by Judge Diaz, five years ago, but which was reversed by the Court of Appeals in a 2009 decision.  Judge Diaz had hung up on  another putative TCPA class action by Mr. Blitz in Blitz v. Xpress Image, Inc., 2006 NCBC 10.  That one wasn't appealed.

So why couldn't the Plaintiff in Agean connect, even after the COA ruling?  Judge Murphy said that even if a common question predominates in a class action, that this isn't the end of the analysis.  He held "a common question is not enough when the answer may vary with each class member and is determinative of whether the member is properly part of the class."  (quoting Carnett's, Inc. v. Hammond, 610 S.E.2d 529, 532 (Ga. 2005).

It was getting the answer to the question of whether each of the proposed class members had received unsolicited faxes was the problem.  Blitz said the class members were all persons whose fax numbers were on a list purchased by the Defendants, but some of those on the list had requested that the Defendants send them faxes.  So those persons weren't entitled to be class members.

Judge Murphy said that the Court's time, at trial, would be consumed with determining whether those included in the proposed class definition were entitled to be members of the class.  Judge Murphy said that "[t]his would have the Court conducting individual inquiries into each [fax] number and result in the type of mini-trials that class actions are designed to avoid." Op. ¶36.

But that wasn't the only flaw in Plaintiff's case seen by Judge Murphy.  He was concerned that the class action was being used by Blitz as "inappropriate leverage" to settle his own claims, which were worth only about $2500 (the statute authorizes $500 in damages for each unsolicited fax).  Judge Murphy quoted an early Judge Tennille opinion, Lupton v. Blue Cross & Blue Shield, 1999 NCBC 3, for the proposition that:

Class actions can involve amounts that threaten to cripple or bankrupt the defendant. This creates a potential for abuse that is readily apparent: the use of the class action complaint to put greater financial pressure on defendants to settle with the individual plaintiff.

Id. ¶10.

Judge Murphy, sensing that type of financial pressure at work, said that in his discretion certification "would be unjust on equitable grounds."  Op. ¶39.

Sometimes it takes longer to find the picture for the post than it takes to write the post. Today was one of those days.   I scoured the Internet for a picture of Yogi Berra sending a fax, which would have been ideal, but there are none to be found.  But I was surprised to find that Yogi can be faxed at his family company, LTD Enterprises (the number is 973-655-6788).  So with Yogi's unavailability,  a dinosaur is what you get.  That's what the fax machine has become.  There also were no pictures available of dinosaurs sending faxes (come on, look at those little hands on the tyrannosaurus!) and not even a fax number for a dinosaur.



Class Action Certified In North Carolina Against KB Homes

You probably haven't heard of HardiePlank.  According to its manufacturer, James Hardie Industries NV, it is "the most popular brand of siding in America and can be found on over 4 million homes."

But you've probably heard of KB Home, one of the largest home builders in the country.  It builds in North Carolina and throughout the United States.

On Monday, Judge Jolly  certified a class action making claims against KB Home in Elliott v. KB Home North Carolina, Inc.  The case focuses on HardiePlank.  The class members are "all North Carolina residents" who own a home built with HardiePlank siding by KB Home where a weather restrictive barrier was not placed behind the HardiePlank.  Another defendant in the case is Stock Building Supply, LLC, which installed the HardiePlank on many of the homes involved in the certified class.  The class members allege water infiltration into their homes as a result of the lack of a barrier.

The lawyers for the parties have sparred over whether the North Carolina Building Code required the installation of the barrier at the time the homes were built.  Judge Jolly ruled that it was not necessary for him to consider that issue at the class certification stage.  Order ¶20.  Also, the varying nature of damages experienced by the class members did not bar certification.  Relying on a Ninth Circuit decision, Judge Jolly said "[t]he amount of damages is invariably an individual question and does not defeat class action treatment." (quoting Blackie v. Barrack, 524 F.2d 891, 905 (9th Cir. 1975)).

The number of class members ranges between 277 and 554, depending on whether the homes are owned by an individual or by a couple.  They are located in KB Home's developments known as Amberly and Twin Lakes, both in Cary, NC.

This isn't the first time the Business Court has taken on a class action regarding a construction issue.  The Business Court handled a significant case regarding the synthetic stucco problem which plagued homeowners in the late 1990's, Ruff v. Parex, Inc., 1999 NCBC 6 (N.C. Super. Ct. June 17, 1999)(Tennille).

There's no telling whether HardiePlank will prove to be as large a problem as synthetic stucco was.  The plaintiffs' lawyers estimate the cost of repair for each home to be $30,000.  Although KB Home disputes that figure, that puts the full exposure for nearly 300 homes at almost $9 million.  For a public company like KB, whose last 10-K filing shows that it hasn't turned a profit between 2009 and 2011, that's a pretty daunting potential liability.


Business Court Resolves Dispute Among Lawyers Over Division Of Class Action Fee Pie

Yesterday, Judge Gale entered summary judgment against a North Carolina lawyer who claimed he was entitled to a greater share of a $3 million fee award to a group of plaintiffs' counsel in a series of settled class actions.  The opinion was in the case brought by the lawyer seeking an enhancement of his fee, Donald Dunn, against the lawyers who were his co-counsel, Henry Dart and Robert Zaytoun, in Dunn v. Dart.

The lawyers represented members of the communities living near an industrial plant in Apex, North Carolina at the time of an explosion there. Those families who were forced to evacuate their homes as a result of the explosion settled several class actions for payments of close to a total of $8 million.

A federal judge approving the settlement in the Eastern District also approved the $2.9 million fee award, which allocated $75,000 to Dunn.  Dunn then filed a separate action in North Carolina asserting that he had a side arrangement with his co-counsel to split one third of the fee 50/50 with them.  Dart walked from the fee award with $975,000 and Zaytoun with $670,000, aggrieving Dunn, who received only a paltry $75,000 for his work on the case.

Dunn presented emails speaking to the split, but Judge Gale ruled that the emails were insufficient to prove an agreement, and that they anticipated further negotiation over terms followed by a final written agreement.

The other basis for summary judgment against Dunn was North Carolina Rule of Professional Conduct 1.5, which says that lawyers from different firms may divide fees only if the client consents to the split, and the agreement is confirmed in writing.   Dunn had no evidence of such consent, and no written agreement (except for the found-to-be-inadequate emails).  Judge Gale said that the agreement was unenforceable without compliance with the Rule


The Fourth Circuit On Recusals And Pro Hac Vice Admissions

We all sometimes say things that we are sorry to have said.  Even judges. Those types of statements by a District Court Judge in South Carolina, which the Fourth Circuit called "neither wise nor temperate" were the subject of a recusal motion ruled on last week by the Fourth Circuit, in Belue v. Aegon USA, Inc.   The Court also discussed the circumstances under which a pro hac vice admission can be withdrawn, taking issue with the trial judge's revocation of that status.

The comments by Judge Anderson of the District of South Carolina were made in connection with a hearing in a  class action matter.  He criticized a related settlement in another jurisdiction as possibly being one "of those buddy settlements  we have to watch out for."  He was also critical of the defendants' approach in another case and suggested that the settlement in that case had been "improper."

This prompted the defendants' lawyers to file a motion to recuse Judge Anderson pursuant to 28 U.S.C. sec. 455 (b)(1), which requires recusal when a judge "has a personal bias or prejudice concerning a party, or personal knowledge of disputed evidentiary facts concerning the proceeding."

The Judge's reaction to the motion to recuse was fiery.  He said it was the defense counsel's reaction to negative rulings, saying "you lose the case and attack the judge."  He called the request for recusal "the most inappropriate motion in the world."

Judge Wilkinson, writing for the Fourth Circuit, said that recusals based on in-trial conduct generally involved "singular and startling facts."  He noted that the Supreme Court has said that the bias should stem from a source outside of the judicial proceeding, usually requiring an "extrajudicial source." 

The Fourth Circuit called the recusal motion "decidedly ill founded."  Judge Wilkinson said that "strong views" expressed by a judge about a case were not grounds for recusal, stating that:

Litigation is often a contentious business, and tempers often flare. But to argue that judges must desist from forming strong views about a case is to blink the reality that judicial decisions inescapably require judgment. Dissatisfaction with  a judge’s views on the merits of a case may present ample grounds for appeal, but it rarely — if ever — presents a basis for recusal.

Op. p.15. 

The opinion expresses a general disfavor of recusal motions, saying that they should not "become a form of brushback pitch for litigants to hurl at judges who do not rule in their favor," and that "no appellate court can afford to leave trial judges prey to a slew of groundless calls for recusal from litigants whose major objection to those judges appears to be a perceived disagreement with them."

Continue Reading...

The Million Dollar Haircut: NC Business Court Reduces Fee Application In Wachovia/Wells Fargo Class Action

The lawyers who represented a class of Wachovia shareholders in the lawsuit over Wachovia's merger last year with Wells Fargo have gotten a ruling on their application for $1,975,000 in fees. Judge Diaz knocked that application down by over a million dollars -- or more than half of the fees sought -- to $932,621.98.

The Order today in Ehrenhaus v. Baker ruled that "the time spent by counsel on the case appears to be somewhat excessive," and that "the hourly rates of Plaintiff's New York counsel [of $750 per hour] are far in excess of those normally charged by attorneys in North Carolina."

I cannot tell you how the Court got to the $932,621.98 number because, as Judge Diaz observed, Plaintiff's counsel "did not submit detailed time records of the work done." But the fee application claimed 2,333 hours of work, which breaks down to an award of $399.75 per hour.

On a more serious note, there are two parts to the Order that may have more of a future precedential value.  One is that Judge Diaz' ruling certified a non-opt-out class. In other words, class members didn't have the traditional right to opt out of the settlement and pursue their individual claims. The Court said that this type of certification was appropriate given that this was a lawsuit over a merger seeking primarily equitable relief. There are no appellate cases in North Carolina approving such a non-opt-out certification, although the Business Court has certified such classes before.

The other is the Court's consideration of the reaction of the class itself in determining that the settlement was adequate. Judge Diaz said that "the reaction of the class to the settlement is perhaps the most significant factor to be weighed in considering its adequacy." He noted that over a million class members had received notice of the settlement, but that only 51 had objected. He held that "the overwhelming majority of the Class has been virtually silent as to the Proposed Settlement," and that "the muted reaction of the Class . . . supports a finding that the Proposed Settlement is fair and reasonable."

I don't think this was the tacit approval that Judge Diaz thought it was. It's more likely to me that Wachovia's shareholders were just tired of the whole darn thing.

Fourth Circuit Rules On Determining The "Principal Place Of Business" Of A Limited Liability Company Under The Class Action Fairness Act

Diversity is determined differently for corporations and limited liability companies. Corporations are citizens of the states in which they are incorporated and the state where they have their principal place of business, but an LLC is a citizen of each state in which its members reside.  See, e.g., General Technology Applications, Inc. v. Exro Ltda, 388 F.3d 114 (4th Cir. 2004).

But when the Class Action Fairness Act is involved, things are different. Last Friday, the Fourth Circuit ruled in Ferrell v. Express Check Advance of SC LLC that a limited liability company is an "unincorporated association" for CAFA purposes, and that the determination of the "principal place of business" of an LLC should be determined using the same test applied to a corporation. In other words, the citizenship of the members of an LLC isn't necessarily determinative of diversity in a CAFA case, and it wasn't in Express Check.


The LLC defendant conducted its operations in South Carolina, but its sole member was a corporation incorporated in Missouri with a principal place of business in Kansas. It had been sued by a Plaintiff who was an individual resident of South Carolina.

The Defendant, relying on the Missouri and Kansas citizenship of its sole member, removed the case to federal court based on diversity jurisdiction, and the Plaintiff moved for a remand.

If CAFA hadn't been at issue, the general rule for determining the citizenship of an "unincorporated association" would have applied. That rule looks to the citizenship of each member of the entity, so an LLC would be a citizen of each state in which its members resided. There would have been diversity under that test because the Defendant was either a Missouri entity or a Kansas entity. 

An LLC Is An Unincorporated Association Under The Class Action Fairness Act 

But under CAFA, Congress changed the traditional rule, and said that an "unincorporated association" should be treated like a corporation, and deemed a citizen of the State "under whose laws it is organized" and also where it has its principal place of business. 28 U.S.C. Sec. 1332(d)(1).

Express Check, concerned that its principal place of business might be found to be diversity-defeating South Carolina, sought to get out from under the CAFA rule. It said that an LLC wasn't intended by Congress to be included in the definition of an "unincorporated association." The Fourth Circuit cut through that argument quickly, calling it "linguistic," and held that an LLC's "citizenship for purposes of CAFA is that of the State under whose laws it is organized and the State where it has its principal place of business."

The decision sweeps beyond LLCs, as Judge Niemeyer ruled that the term "unincorporated association," under CAFA, "refers to all non-corporate business entities."

The Court then turned to the issue of where the LLC had its principal place of business.

Continue Reading...

Law Firm's Client Didn't Have First Amendment Right To Be Anonymous

We'll probably never know the identity of the Appellant in Lefkoe v. Jos. A. Bank Clothiers, Inc., decided yesterday by the Fourth Circuit.  Whether anyone, including the Defendant, was entitled to know that person's name was the whole point of the appeal by the party referred to by the Fourth Circuit as the "Doe Client."

The Doe Client had accused Jos. A. Bank, a publicly traded company, of serious accounting fraud. That individual, who claimed a constitutional right to anonymity, appealed a ruling of a trial judge in the District of Maryland ordering his or her identity to be disclosed to the Defendant.

The Fourth Court's ruling touches both deposition and subpoena procedure under the Federal Rules of Civil Procedure as well as issues of freedom of speech under the First Amendment.


You'll need more than a little bit of background, as the case has elements of a John Grisham novel. Lefkoe is a securities class action. Plaintiffs assert fraud based on a sharp drop in the clothing company's share price when it delayed an earnings report.

The delay occurred because Bank's Audit Committee had received, shortly before the report's due date, a letter from the law firm of Foley & Lardner making detailed charges of accounting improprieties.The letter was sent by the law firm on behalf of a shareholder who it said "held several hundred thousand shares" of Bank stock. The shareholder was not identified in the letter.

Bank hired lawyers and accountants to investigate the charges. The conclusion of the investigation was that the charges were "without substance." In the securities lawsuit, filed in federal court in Maryland, Bank sent a subpoena to the law firm seeking to require it to present a witness to testify as to the identity of its client. The subpoena was issued from the Massachusetts district court.

The law firm objected there to the subpoena, asserting that its client had "a right of anonymity as protected by the First Amendment." The Massachusetts judge permitted the deposition to take place. The law firm presented the Doe Client as the witness. The Court ordered the deposition sealed and entered a protective order stating that the lawyers for Bank couldn't tell their client the name of the Doe Client.

The lawyers for Bank investigated the Doe Client, and found facts suggesting it had taken "deliberate and successful actions to drive down the market price" of Bank stock, and furthermore that it was a short seller who held a substantial quantity of puts on Bank stock.  The Doe Client therefore stood to profit from the decline in Bank stock.

The clothing company's lawyers then asked the Maryland judge to permit them to provide the name of  the Doe Client to Bank. The Maryland judge agreed to a wider disclosure, but only to Bank's in-house counsel.

The Doe Client appealed to the Fourth Circuit, arguing that the Maryland court didn't have the authority to modify the Massachusetts' court's ruling, and furthermore that the ruling violated the Doe Client's First Amendment rights.

Continue Reading...

Fourth Circuit Orders Certification Of Race Discrimination Class Action

The Fourth Circuit ordered certification of a race discrimination class action last Friday in Brown v. Nucor Corp. reversing the district court. The 2-1 decision ordered the lower court to certify a class of employees making claims for disparate impact, disparate treatment, and hostile work environment.

The majority opinion, written by Judge Gregory, discussed: (1) when discrimination claims meet the commonality and typicality requirements of Rule 23, (2) the use of statistical evidence when the historical data to make such calculations has been destroyed, and (3) whether the plaintiffs could represent employees who worked in other  departments of the employer.

The plaintiffs, African-American employees at Nucor's South Carolina plant, asserted that Nucor's promotion procedure allowed white managers and supervisors to use subjective criteria in promotion decisions, and that this had a disparate impact on African-American employees applying for promotions. 

The trial court had determined that subjectivity in decision-making alone couldn't establish a disparate impact claim, and had found the statistical evidence presented by the class plaintiffs insufficient to make out a disparate impact. The Fourth Circuit disagreed with both conclusions.

Commonality and Typicality

The Court held that "[a]llegations of similar discriminatory employment practices, such as the use of entirely subjective personnel processes that operate to discriminate, satisfy the commonality and typicality requirements of Rule 23(a)."  It further found that the plaintiffs had "presented compelling direct evidence of discrimination," including:

denials of promotions when more junior white employees were granted promotions, denial of the ability to cross-train during regular shifts like their white counterparts, and a statement by a white supervisor [who wore a Confederate flag emblem on his hardhat] that he would never promote a black employee.

The Court held that "[t]his evidence alone establishes common claims of discrimination worthy of class certification."

The opinion stressed that "[t]he question before the district court was not whether the appellants have definitively proven disparate treatment and a disparate impact; rather the question was whether the basis of appellants' discrimination claims was sufficient to support class certification." Op. at 11. It further observed that "evidence need not be conclusive to be probative, and even evidence that is of relatively weak probative value may be useful in meeting the commonality requirement." Op. at 12.

Statistical Evidence

On the point of statistical evidence, the main issue involved Nucor's destruction of promotion records from before 2001.  The plaintiffs had attempt to fill in the missing data by extrapolating from change-of-status forms showing positions filled during the 1999-2000 time period and assuming that the racial composition of the bidding pool had been the same then as in later years.

The Fourth Circuit held that the trial court had improperly refused to consider these calculations:

when an employer destroys relevant employment data, the plaintiffs may utilize alternative benchmarks to make up for this lost data. Certainly, the benchmarks will not be as good as the destroyed data themselves -- that would be next to impossible to achieve. Nevertheless, the plaintiffs should not be penalized by the destruction (however innocent) of such data.

Op. at 10 n.4.

There are other significant points on statistical evidence in the opinion, including a discussion of a two standard deviation threshold and the "80% rule."

Continue Reading...

"Juridical Link" Leads To Certification Of Class Action By The North Carolina Business Court

The Business Court made two novel rulings last week in its certification of a class action in Clark v. Alan Vester Auto Group, Inc., 2009 NCBC 17 (N.C. Super. Ct. July 17, 2009).  First, it adopted the the concept of a "juridical link," which it used to determine the scope of the class claims.  Second, the Court transferred the burden of class notice, which usually rests on the Plaintiff, to the Defendants due to their spoliation of evidence.

The Plaintiffs were seeking certification of a class of car buyers who had gotten loans through a group of auto dealerships. Plaintiffs claimed that the dealers violated the Motor Vehicle Dealers and Manufacturers Licensing Law by falsely reporting that he had made a down payment to purchase a used car. The dealers did this, according to the Plaintiffs, in order to increase the likelihood of the buyers getting loans and to get loan approvals for higher amounts.

First Impression Ruling On Juridical Link

In a second ruling issued the same day, the Court dismissed one Plaintiff's claim on a motion for summary judgment, ruling that it could address the merits issue before determining the certification issue. The remaining Plaintiff was seeking to represent a class not only of purchasers from the dealership with which he had dealt, but also purchasers from all of the dealerships under the same corporate umbrella.  The Defendants argued that the Plaintiff lacked standing to sue the other dealerships, and that he could not be a proper class representative as to them.

Judge Jolly ruled against the Defendants, and certified a class against all of the dealerships, relying on the "juridical link doctrine."  He described a judicial link "as the existence of a legal relationship between two or more defendants in a way such that resolution of the disputed claims in a single civil action is preferable to numerous disparate, but similar actions." Op. ¶46.  He held, in what he "deem[ed] to be a matter of first impression for the North Carolina courts" that:

The 'juridical-link doctrine' answers the question of whether two defendants are sufficiently linked so that a plaintiff with a cause of action against only one defendant can also sue the other defendant under the guise of class certification. . . . A juridical link sufficient to confer standing generally must stem from an independent legal relationship. It must be some form of activity or association on the part of the defendants that warrants imposition of joint liability against the group even though the plaintiff may have dealt primarily with a single member. This link may be a conspiracy, partnership, joint enterprise, agreement, contract, or aiding and abetting which acts to standardize the factual underpinnings of the claims and to insure the assertion of defenses common to the class.

Op. ¶46.

The juridical link was established in Clark due to the close corporate relationship of the defendant dealerships, which included the following: (1) they were managed by a single corporation, (2) they all shared the same compliance manager and compliance manual, (3) the same individual was the president of each dealership, (4) they shared common officers, (5) their accounting was done by the same accountant.

Spoliation Results In The Shifting Of The Expense Of Class Notice

In a third ruling in the case, Judge Jolly ruled that the Defendants had spoliated evidence by destroying "cover sheets" which might have shown whether Defendants had falsely reported a down payment.

The Court observed that it was the "general rule" that a plaintiff should bear the cost of identifying and notifying class members of the pendency of a class action, but that there was an exception when "there has been abuse of discovery or other pre-trial process by the defendant."

The Defendants' destruction of the cover sheets, according to the court, went "directly to the existence and identity of class members."  The Court ruled that the Defendants would therefore bear the costs of identifying and notifying class members of the action, not the Plaintiff.

I have not attached the briefs to this post because they were all filed under seal.

Fourth Circuit Enforces Class Action Settlement Agreement

The Fourth Circuit ruled yesterday in Huttenstine v. Mast on the Defendants' effort to back out of a class action settlement to which they had agreed, and affirmed an entry of judgment against the Defendants for the full amount of the settlement.

The Defendants, who apparently had second thoughts about their deal, refused to make the $425,000 payment called for by the agreement.  They took the position that their payment was a condition precedent to the effectiveness of the settlement agreement, and that their failure to comply with the condition precedent resulted in the entire agreement being void.

The Fourth Circuit rejected that argument in an unpublished opinion, finding it to be "incomprehensible."  The Court drew a distinction between promises and conditions precedent, ruling that the obligation to make the settlement payment was a binding promise on behalf of the Defendants, not a condition precedent.  When the Defendants failed to pay, they breached their promise, and the District Court had properly entered judgment against them in the full amount of the settlement, plus interest.

The Court further observed that the Defendants were not entitled to refuse to make the payment and to then benefit from their own failure to satisfy the condition.  It held, relying on a line of North Carolina cases, that "one who prevents the performance of a condition, or makes it impossible by his own act, will not be permitted to take advantage of the nonperformance."

Those Fax Charges Can Add Up

Given the dinosaur-like status of the fax, it was a surprise that there were two North Carolina decisions last week, one from the Court of Appeals and one from the Business Court, that involved faxes. The appellate decision is a class action case; the Business Court decision addressed the more mundane subject of how much a law firm can charge for sending a fax.

The COA decision, Blitz v. Agean, Inc., involved the Telephone Consumer Protection Act.  That federal legislation was enacted 18 years ago, when fax machines were a routine means of communication.  The TCPA outlawed the annoying practice of sending unsolicited fax advertisements.  It imposed penalties of $500 per unsolicited fax, allowed for attorneys' fees, and immediately attracted class action lawyer like moths to a flame.

The Blitz case was a purported class action on behalf of 900 individuals who had received multiple faxes from the defendant, a restaurant operator in Durham.  The Business Court had dismissed the case in a 2007 ruling, holding that individual inquiries of whether the recipients had consented to the receipt of the faxes, and whether there was a "established business relationship" between the faxer and the faxees, would predominate over the common issues.  Judge Diaz also ruled that the claims were better brought in small claims court.

The Court of Appeals reversed, ruling that the need to determine consent wasn't determinative, and that the decision on whether a TCPA class action should proceed should be made on a case by case basis.  On the point about small claims court, the appellate court said that there were circumstances under which a class member's claims might exceed the $5,000 limit of small claims jurisdiction, and that the small claims court didn't have the power to enter the injunctive relief permitted under the TCPA and requested by the Plaintiff.

The other fax related ruling last week, Estwanik v. Gudeman, was a Business Court decision on a completely different subject.  The issue was a receiver's application for fees.  The application included a charge of $301 for faxes, which was attributable to 301 pages faxed by the receiver's counsel to a lawyer in response to three subpoenas. 

The receiver's counsel had asked to send the 301 pages by email, but the lawyer requesting them had insisted on getting them via fax, the same day that the subpoenas were served.  The receiver's law firm apparently charged its standard $1.00 per page fax charge. Judge Diaz rejected the $1.00 per page fee, said it was "exorbitant," and ruled that the receiver should collect it from the attorney who sent the subpoena.

Can a lawyer charge $1.00 per page for a fax?  Maybe.  This type of charge is covered in ABA Formal Opinion 93-379 (titled Billing for Professional Fees, Disbursements and Other Expenses).  The Opinion doesn't address fax charges specifically, but says the following about the allowable charge for copying by a law firm: "no more than the direct cost associated with the service (i.e., the actual cost of making a copy on the photocopy machine) plus a reasonable allocation of overhead expenses directly associated with the provision of the service (.e., the salary of a photocopy machine operator).

The ABA Opinion goes on to say "it is impermissible for a lawyer to create an additional source of profit for the law firm beyond that which is contained in the provision of professional services themselves.  The lawyer's stock in trade is the sale of legal services, not photocopy paper, tuna fish sandwiches, computer time or messenger services."

Class Counsel Says To Wells Fargo, That Will Be $1,975,000. Please.

One million nine hundred and seventy-five thousand dollars.  Those are the fees applied for by the lawyers representing the Plaintiff in the almost completely unsuccessful effort to get an injunction against the now completed merger between Wachovia and Wells Fargo. 

Plaintiff has presented a Stipulation and Agreement of Compromise, Settlement and Release to the Court, which includes a provision for the $1.975 million fee award.  Wells Fargo, the acquiror of Wachovia, is not opposing Plaintiff's request.

What are Wachovia's shareholders getting out of the proposed settlement in the Ehrenhaus v. Baker lawsuit?  Not money.  The merger closed, months ago, at the price offered by Wells Fargo and on Wells Fargo's terms, after the Business Court denied Plaintiff's Motion for Preliminary Injunction.

The only arguable "value" for the Wachovia shareholders obtained by the Plaintiff consists of two things.  The first is that Judge Diaz' December 5, 2008 Order held invalid an 18-month "tail" on Wells Fargo's right to vote its 40% interest in Wachovia if the merger wasn't approved.  After that, Plaintiff filed a Proposed Amended Complaint asserting proxy violations.  Although that amendment has never been allowed by the Court, Wachovia made amendments to the Proxy Statement six days after the Proposed Amended Complaint was filed.

The information added by Wachovia to its Proxy Statement was (to me, anyway) completely inconsequential.  If you want to make the comparison yourself, the November 21, 2008 proxy statement is here, and the December 17, 2008 8-K filing containing the supplementation is here.

The Brief filed by Plaintiff in support of the settlement doesn't contain any mention of a legal basis for an award of attorneys' fees.  That might be because there isn't any basis for such an award.  The North Carolina Court of Appeals has held that class counsel is not entitled to fees unless the relief obtained involves some pecuniary benefit to the class. 

That case, coincidentally, also involved Wachovia, and is In re Wachovia Shareholders Litigation, 168 N.C. App. 135, 607 S.E.2d 48 (2005).  That decision overturned an award of fees to class plaintiffs who got relief similar to the invalidation of the tail in the Ehrenhaus case.  So if Wachovia and Wells Fargo opposed a fee petition, it seems almost beyond doubt that they would win, because Plaintiff didn't obtain any monetary benefit for the class.

If the Business Court is going to be willing to consider fees notwithstanding the roadblock of the In re Wachovia Shareholders case, there isn't a bit of explanation in any of the papers filed this week about why counsel should be entitled to $1,975,000.  Nothing about hourly rates, nothing about the number of lawyers who worked on the case, nothing about the work they did, nothing about their out-of-pocket expenses, and no connection between the $1,975,000 and the value of the results achieved for Wachovia's shareholders. (Though the Plaintiff's lawyers did point out that they reviewed 9,500 pages of documents and they took four depositions.)

That's a pretty glaring omission, because there's no information for the Court to enable it to assess the reasonableness of the attorneys' fees. That's a requirement of the approval of a class action settlement, certainly under federal law. See, e.g., Piambino v. Bailey, 610 F.2d 1306, 1328 (5th Cir.) (holding that by summarily approving attorney's fees in an unopposed settlement agreement the district court "abdicated its responsibility to assess the reasonableness of the attorneys' fees proposed under the settlement of a class action, and its approval of the settlement must be reversed on this ground alone."), cert. denied, 449 U.S. 1011, 101 S.Ct. 568, 66 L.Ed.2d 469 (1980); Jordan v. Mark IV Hair Styles, Inc., 806 F.2d 695, 697 (6th Cir. 1986)("Even where there has been no objection to the size of the attorney's fee requested, it is the responsibility of the court to see to it that the size of the award is reasonable.").

Wachovia shareholders who are members of the class will have the right, at a time set by the Court, to object to the terms of the proposed settlement.  By the way, this is proposed to be a non-opt out class of shareholders, which means that the settlement will cover every shareholder of Wachovia. Plaintiff says that's appropriate because this was a "typical merger case" where the claims were "predominately equitable in nature." 

North Carolina Court Of Appeals Reinstates Antitrust Class Action

The courthouse door in North Carolina is now wide open to antitrust plaintiffs making indirect purchaser claims, after the Court of Appeals' decision this week in Teague v. Bayer.  That decision reverses the North Carolina Business Court's dismissal of the case for lack of standing.

For those whose hearts don't start beating faster when reading about antitrust cases, an "indirect purchaser" is "one who purchases a product from some intermediary party rather than directly from the manufacturer." 

Teague alleges that he purchased garden hoses, roofing materials, and other items which contained ethylene propylene diene monomor alastomers (EPDM) sold by the defendant chemical companies to the manufacturers of those items.  Teague, an indirect purchaser of EPDM, claimed that the manufacturers of EPDM had conspired to fix its price.

Indirect purchasers can't make claims under the federal antitrust laws after the Supreme Court's seminal decision in Illinois Brick Co. v. Illinois, 431 U.S. 720 (1977), but these types of claims can be made under state antitrust laws, per Associated General Contractors v. Carpenters, 459 U.S. 519 (1983). North Carolina has allowed such claims since Hyde v. Abbott Laboratories, 123 N.C. App. 572, 473 S.E.2d 680 (1996).

In the lower court ruling, Judge Tennille dismissed the case based on standing grounds, relying on a variation of the factors set out by the Supreme Court in the Associated General Contractors decision for determining standing under the federal antitrust laws.  I summarized the Business Court decision in an earlier post, but this was the gist of what the Business Court considered in dismissing the case nearly two years ago:

the relevant market (it determined that plaintiff was a participant in a collateral market, a factor working against standing), the directness of impact (what the court termed a complex issue involving multiple distribution chains, which weighed against standing), that other indirect purchasers were likely to have been more heavily impacted (having absorbed some or all of the price increase without passing it on to plaintiff), and the daunting and complex nature of the calculation of damages (which the Court found even more complex than the calculation considered in its dismissal of an earlier case, Crouch).

The Court of Appeals reversed, holding that the Associated General Contractors factors don't apply to antitrust claims by consumers.  It acknowledged the Business Court's point on the difficulty that plaintiff would have proving his claims, especially as to causation and damages, but said that these matters would be better addressed at the class certification and summary judgment stages.  Here's the key part of this week's holding:

Defendants contend that courts would have to isolate the effect of the alleged conspiracy on the price of EPDM and rule out the numerous other factors that could cause a price increase in these products such as inflation, prices of other inputs, transport costs, product demand, and market conditions. Thus, a rigorous economic analysis would be required to determine whether increased prices were the result of the alleged price fixing or the result of some other factor.

The U.S. Court of Appeals for the Ninth Circuit has recognized, "Complex antitrust cases . . . invariably involve complicated questions of causation and damages." Forsyth v. Humana, Inc., 114 F.3d 1467, 1478 (9th Cir. 1997). Even if the present case proves to be no exception, that is not sufficient reason to dismiss for lack of standing. As the trial court found, considering several products containing EPDM adds to the complexity of apportioning damages in this case. The analysis described above would have to be conducted for every product at issue in order to accurately calculate Plaintiff's damages. Our Court recognized in Hyde that a suit by indirect purchasers under our antitrust laws would be complex. However, "fear of complexity is not a sufficient reason to disallow a suit by an indirect purchaser, given the intent of the General Assembly to 'establish an effective private cause of action for aggrieved consumers in this State.'" Hyde, 123 N.C. App. at 584, 473 S.E.2d at 687-88 (quoting Marshall, 302 543, 276 S.E.2d at 400). . . .  We therefore hold that Plaintiff has standing to bring this antitrust and consumer fraud action.

The Teague decision also calls into question another Business Court decision, Crouch v. Compton Corp., 2004 NCBC 7 (N.C. Super. Ct. Oct. 26, 2004), in which the Court dismissed an indirect purchaser claim on standing grounds.


Possible Settlement Announced In Wachovia-Wells Fargo Merger Litigation

Wachovia and Wells Fargo have probably reached a settlement with the Plaintiff in the class action lawsuit over the merger between the two banks.  The settlement, announced in Wachovia's Form 8-K filed with the Securities and Exchange Commission yesterday evening, will if finalized require approval by the North Carolina Business Court.

The 8-K filing references a Memorandum of Understanding setting out the anticipated terms of the settlement.  The Memorandum wasn't a part of the SEC filing, but the filing says that Wachovia and Wells Fargo will agree not to appeal the (pretty insignificant) win by Plaintiff on the invalidity of the 18 month "tail" in the Merger Agreement, and Wachovia will agree to make additional disclosures in its proxy statement.

The filing says the following:

Wachovia and Wells Fargo agreed not to appeal from the portion of the Court’s Order dated December 5, 2008 that enjoins the 18 Month Tail Provision. Wells Fargo for its part also agreed to waive the enforceability by Wells Fargo of the 18 Month Tail Provision to the extent enjoined by the Court’s Order. Wachovia and Wells Fargo also agreed to make certain additional disclosures related to the proposed merger, which are contained in this Form 8-K. The memorandum of understanding contemplates that the parties will enter into a stipulation of settlement.

The stipulation of settlement will be subject to customary conditions, including court approval following notice to Wachovia’s shareholders. In the event that the parties enter into a stipulation of settlement, a hearing will be scheduled at which the Court will consider the fairness, reasonableness, and adequacy of the settlement. There can be no assurance that the parties will ultimately enter into a stipulation of settlement or that the Court will approve the settlement even if the parties were to enter into such stipulation. In such event, the proposed settlement as contemplated by the memorandum of understanding may be terminated.

The Form 8-K also contains the additional disclosures which Wachovia agreed to make in its proxy statement. There's nothing particularly new or revealing in those.

The picture of the Wachovia sign at the top is from CounterBreak, on Flickr.  

NC Business Court Denies Motion For Preliminary Injunction In Wachovia-Wells Fargo Merger Case

Ehrenhaus v. Baker, 2008 NCBC 20 (N.C. Super. Ct. Dec. 5, 2008)

The North Carolina Business Court has denied Plaintiff's Motion for a Preliminary Injunction with regard to the pending merger between Wachovia and Wells Fargo.

The opinion of Judge Diaz was issued early Friday evening, after the close of business.  The principal holdings of the 28 page opinion, briefly, were that (1) the Wachovia Board of Directors, in approving the merger deal, satisfied its obligations under the Business Judgment Rule in light of the dire economic circumstances and lack of alternatives faced by the Board, (2) the Board complied with North Carolina law in the issuance of new shares of stock to Wells Fargo which gave it 39.9% of the voting control over Wachovia, and (3) the grant of this voting bloc was not coercive to Wachovia's shareholders. 

Judge Diaz also found, however, that the continuation of Wells Fargo's right to vote these shares for an 18 month period if the Wachovia shareholders reject the merger was invalid.  That narrow victory for the Plaintiff won't, however, have any effect on the transaction.

The Court's holdings, in more detail, were as follows:

Business Judgment Rule 

The Board satisfied its responsibilities under the Business Judgment Rule. The Court held that:

this case does not fit neatly into conventional business judgment rule jurisprudence, which assumes the presence of a free and competitive market to assess the value and merits of a transaction. But other than insisting that he would have stood firm in the eye of what can only be described as a cataclysmic financial storm, Plaintiff offers nothing to suggest that the Board’s response to the Hobson’s choice before it was unreasonable.

Op. at ¶¶124-25. As the Court put it:

The stark reality is that the Board (1) recognized that Wachovia was on the brink of failure because of an unprecedented financial tsunami, (2) understood the very real and immediate threat of a forced liquidation of the Company by government regulators in the absence of a completed merger transaction with someone, and (3) possessed little (if any) leverage in its negotiations with Wells Fargo because of the absence of any superior merger proposals.

Against that backdrop, the Board had two options: (1) accept a merger proposal that, although partially circumscribing the shareholders’ ability to vote on its merits, nevertheless still gave the shareholders a voice in the transaction and also provided substantial value; or (2) reject the Merger Agreement and face the very real prospect that Wachovia shareholders would receive nothing.

Pared to its essence, Plaintiff’s argument is that he would have voted to reject the Merger Agreement and take his chances with the government had he been sitting on the Board on 2 October 2008. But it is precisely this sort of post hoc second-guessing that the business judgment rule prohibits, even where the transaction involves a merger or sale of control.

Op. at ¶¶131-33.

The Share Issuance Was Valid

The Wachovia Board complied with North Carolina law in issuing new shares to Wells Fargo which represented 39.9% of the voting stock of Wachovia. Op. ¶¶107-11.  Shareholder approval was not required for the exchange of those shares for Wells Fargo shares, because shareholder approval for a share exchange is required only when the shares exchanged are "already outstanding" shares.  These were not.

The Share Issuance Was Not Coercive

The grant of 40% voting control to Wells Fargo was not coercive, because a majority of Wachovia shareholders were still free to accept -- or reject -- the proposed merger.  As Judge Diaz observed:

while it is certainly true that slightly over 40% of the total votes to be cast on the Merger Agreement have been spoken for, and that Plaintiff and those in his camp face a substantial hurdle in defeating this transaction, a majority of Wachovia shareholders (owning nearly 60% of all Wachovia shares) “may still freely vote for or against the merger, based on their own perceived best interests, and ultimately defeat the merger, if they desire.In re IXC Commc’ns. S’holders Litig., 1999 Del. Ch. LEXIS 210, at *23 (concluding that a vote-buying transaction did not disenfranchise the remaining shareholders where a numerical majority of shareholders were still in position to independently vote against the merger).

Op. at ¶142.  Judge Diaz further observed, with regard to Plaintiff's contention that the Share Exchange had deterred other potential bidders: "the sobering reality is that there are few (if any) entities in a position to make a credible bid for Wachovia that would be superior to the Merger Agreement."  Op. at ¶151.  If Wachovia's Board had not taken the Wells Fargo deal, it faced "the obliteration of most, if not all, of the shareholder equity."  Op. at ¶152.

18 Month "Tail" Held Invalid

In a small, but meaningless victory for the Plaintiff, the Court found invalid the provision of the Merger Agreement providing that Wells Fargo would retain its 40% stake for at least 18 months after the vote of the shareholders.  It entered an injunction against that particular portion of the Merger Agreement.  

This looks like the end of the road for the venerable North Carolina institution known as Wachovia. It seems very unlikely that the merger won't receive the 50% plus 1 vote of the outstanding shares required under North Carolina law for the approval of a merger.

Brief in Support of Motion for Preliminary Injunction

Wachovia Brief in Opposition to Motion for Preliminary Injunction

Wells Fargo Brief in Opposition to Motion for Preliminary Injunction

Reply Brief in Support of Motion for Preliminary Injunction

Wachovia Sur-Reply in Opposition fo Motion for Preliminary Injunction

North Carolina's Attorney General And State Treasurer Duke It Out

One of the unusual things about the litigation over the Wachovia-Wells Fargo merger (which I'm hoping will come to a close soon so this blog won't be all Wachovia all the time) was the flood of letters and emails written to the Court.  Judge Diaz received over 200 pieces of correspondence about the case.

The most high profile of those communications was the one from State Treasurer Richard Moore, who had said in a television interview that the merger amounted to "highway robbery."  Ever since Moore wrote his letter, I've been wondering why he didn't move to intervene in the case.  That would have let him speak directly on behalf of the North Carolina Retirement System (the NCRS), which has lost nearly $20 million on its investment in Wachovia.

A likely answer why that didn't happen came this week from the unlikeliest of places, a decision from Judge Keenan of the Southern District of New York, in a case called Kuriakose v. Federal Home Loan Mortgage CompanyThe opinion dealt with who should be the lead plaintiff in that class action under the Private Securities Litigation Reform Act (the PSLRA), and whether the State Treasurer has the power to seek to be a plaintiff in litigation.

The NCRS was vying in Kuriakose for the lead plaintiff position.  It looked like it had that spot locked up, because the Court determined that it was “the presumptively most adequate plaintiff under the PSLRA.”  This isn't much of compliment, because adequacy turns mainly on the extent of the plaintiff's financial loss.  The NCRS is down more than $18,000,000 on its investment in Freddie Mac stock, per an Affidavit filed by Moore in the case.

But Judge Keenan held that the NCRS couldn't be lead plaintiff, because there was a substantial question whether Moore had the right to initiate litigation on its behalf.  In filings in the Southern District, the North Carolina Attorney General and the State Treasurer had gone to war over the authority of the State Treasurer to initiate the litigation and to retain outside counsel to represent the NCRS.

The battle started in late October 2008, with North Carolina's Attorney General Roy Cooper writing to Moore's counsel questioning Moore's ability to retain counsel and to initiate litigation without his approval and demanding that he immediately withdraw his request for lead counsel status.  Moore's lawyers wrote back, disputing Cooper's assertions, and stating that he was "jeopardiz[ing] the ability of the Treasurer to protect the state employees' retirement funds and to recover the significant losses."

The argument then spilled into the federal court in New York.  Cooper filed a Brief, explaining that while Moore served in various capacities to the various retirement systems which are members of the NCRS, that each of the constituent systems has its own "board of trustees with specific management and fiduciary duties specified by North Carolina law." Brf. at 2.  Cooper asserted that the Treasurer, while a member of some of those boards, "does not have independent authority to prosecute any legal action on behalf of the retirement system.  Such authority lies solely with the respective board of trustees."  Brf. at 4. 

That authority, according to Cooper, had not been sought by Moore from the respective boards.  Cooper further argued, relying on N.C. Gen. Stat. §114-2.3, that the approval of the Attorney General was necessary before the retention of private counsel for a state agency. That statute says that "every agency . . . shall obtain written permission from the Attorney General prior to employing private counsel."

Moore disputed Cooper's statutory interpretation in a Response Brief, and pointed to N.C. Gen. Stat. §147-71, which says that the Treasurer has the power "to demand, sue for, collect and receive all money and property of the State not held by some person under authority of law," as well as N.C. Gen. Stat. §147-69.3(g), which empowers the Treasurer to "retain the services of . . . attorneys . . . possessing specialized skills or knowledge necessary for the proper administration of investment programs created pursuant to this section."

Judge Keenan didn't pounce on the opportunity to resolve this North Carolina state government dispute, but instead held:

Given the uncertainty surrounding the Treasurer’s legal authority to act on NCRS’s behalf, the Court cannot accept his certification that NCRS is willing and able to serve as lead plaintiff. Nor would it be in the class’s interest to have a lead plaintiff likely to become bogged down in state court litigation concerning its participation in this federal securities class action. Therefore, Treasurer Moore’s motion to have NCRS appointed as lead plaintiff is denied. 

This is a thorny and interesting issue of the power of the State Treasurer versus that of the Attorney General.  Maybe it will be resolved one day in a court closer to home.

Preliminary Injunction Hearing In Wachovia-Wells Fargo Merger Lawsuit

There's only one thing for sure after today's preliminary injunction hearing in the lawsuit over the merger between Wachovia and Wells Fargo.  And that is that Judge Diaz displayed remarkable patience after more than three hours of argument from five different lawyers.

My favorite sound bites from the very long hearing (which are not verbatim, but based on my notes and recollection), are as follows:

From Plaintiff's Counsel

Over 42% of the shares are locked up in favor of the merger.  That means that 86.2% have to vote "no," or not vote, to defeat the merger.  It's like having a supermajority requirement to vote down a merger.

 If this deal is so good that it's a no-brainer, let the shareholders vote.  Why do you need draconian deal protection measures if that is the case?

The Share Exchange and the lack of fiduciary out are a toxic combination.

The only terrible thing that will happen if our motion is granted is that Wells Fargo might walk away.  But Wells Fargo never says that they will.  They say they might walk.  Wells Fargo is not going to walk from this deal. 

A bond of $5,000 would be about right.

From Defendants' Lawyers

The companies whose boards did not act quickly enough in this financial crisis -- like Lehman and Washington Mutual -- were wiped out.  The Wachovia board acted quickly. 

The shareholder franchise [to vote to approve a merger] is meaningless if there is no franchise remaining. 

Wachovia could very well be in bankruptcy or receivership if this deal hadn't been approved by the Board.

The Wachovia Board faced a stark choice between illiquidity and receivership, on one hand, and Wells Fargo on the other.

Wachovia did not have other options.  These were the best terms that could be negotiated.

It is wishful thinking that another suitor will appear, or that the government will come along and bail out Wachovia.

Most Humorous Exchange

Judge Diaz: Wells Fargo relies on the IXC case from Delaware, where Vice Chancellor Steele said that if 40% of the vote was locked up, that still wasn't a majority.  It was still possible for the shareholders to reject the transaction.

Plaintiff's Counsel: I'm very familiar with that case, I worked on it.

Judge Diaz: Sounds like you lost.

Plaintiff's counsel made it clear that Plaintiff is not requesting an injunction against the merger.  The relief sought is an invalidation of the Share Exchange which gave Wells Fargo nearly 40% of the vote, and a requirement that Wachovia's Board negotiate a broader fiduciary out from the Merger Agreement.  Plaintiff wants a vote on the merger, he just doesn't want Wells Fargo to be able to vote its shares.

At the end of the hearing, Judge Diaz said that he would take the case under advisement.  He did not say when he would rule.  The ruling will certainly be before the shareholders meeting, which has been set for December 23rd. 

Is Wachovia's Share Exchange With Wells Fargo Invalid?

Can it be that the Share Exchange Agreement, which gave Wells Fargo 40% of the voting control over Wachovia stock, is invalid?  That's exactly what the  Plaintiff in the shareholder class action asking for an injunction regarding the Wachovia-Wells Fargo merger is saying in his Reply Brief filed yesterday.

In this new argument -- not raised in Plaintiff's opening Brief -- Plaintiff says that a share exchange, under North Carolina law, requires the approval of the shareholders, and that this approval wasn't obtained.  If Plaintiff is right, the substantial voting power obtained by Wells Fargo in connection with that Agreement would be invalid.

Plaintiff is certainly right about the need for approval of a share exchange under North Carolina law.  Section 55-11-03 of the General Statutes says that:

After adopting a . . . share exchange, the board of directors . . . of the corporation whose shares will be acquired in the share exchange, shall submit the . . . share exchange for approval by its shareholders.

N.C. Gen. Stat. ¶55-11-03(a). If this is the type of share exchange which is subject to the statute in the first place (Wachovia could just as easily have sold these shares to Wells Fargo for $10, and not exchanged shares, so it may not be), this will be a significant issue.

The won't be the end of the inquiry, however, because not every share exchange requires shareholder approval.  The North Carolina statute requires approval only for a forced, involuntary transaction  The commentary to Section 55-11-02 says that:

This section introduces a concept that is new to North Carolina, i.e., a share exchange, which is defined as a transaction by which a corporation becomes the owner of all the outstanding shares of one or more classes of another corporation by an exchange that is compulsory on all owners of the acquired shares.

The statute specifically states that "this section does not limit the acquisition of all or part of the shares of one or more classes or series of a corporation through a voluntary exchange or otherwise."  N.C. Gen. Stat. §55-11-02(d).

Apart from being dictated by the severe financial pressures which Wachovia faced, the share exchange would seem to be voluntary.  If that's the case, it didn't require shareholder approval.

[Update: On Sunday, November 23rd, Wachovia filed a Motion for leave to file an additional Brief addressing this issue.  The  Proposed Brief was attached to the Motion.  In addition to arguing that the statute does not apply to a voluntary transaction, Wachovia argues in the new Brief that the statute does not apply to an issuance of new shares.  I wrote about the process by which these shares were issued in an earlier post.]


Wachovia Shoots Back: Says Its Board Of Directors Fulfilled Its Fiduciary Duties In Negotiating Merger With Wells Fargo

Wachovia has filed its Brief in opposition to Plaintiff's Motion for Preliminary Injunction, laying out the case why its Board of Directors fulfilled their fiduciary duties in agreeing to the Merger with Wells Fargo.

The principal factual support for Wachovia's Brief is the Affidavit of Dona Davis Young, a member of the Wachovia Board of Directors, which relies heavily on the Form S-4 filed by Wells Fargo on October 31st, which discloses the background for the Merger.

Young's Affidavit lays out a day by day chronology of the downward financial spiral in which Wachovia found itself over the months of September and October 2008, and concludes with the approval of the Merger Agreement on October 3rd.

The Affidavit emphasizes that if the Board hadn't voted to approve the Merger, "it was likely . . . that Wachovia would not be able to fund normal banking activities and thus would again face the very real prospect of FDIC receivership."  Young Aff. ¶9.

As Young describes the situation, it was essential to sew up the deal with Wells Fargo in order to obtain the cash needed to sustain operations pending the closing of the Merger:

It was important that Wells Fargo have assurance that the merger could close in order to have an incentive to establish interim funding arrangements with Wachovia, and it was equally important that the financial markets and the Federal Reserve have the same assurance so that Wachovia could obtain funding from these sources as well. Absent the ability to obtain such funding, Wachovia faced receivership, which would have destroyed the value of Wachovia as a business franchise and left its shareholders with worthless stock.  Shortly after the merger agreement was signed and the merger was announced, Wachovia was able to obtain the financing it needed from Wells Fargo and from other sources of funding.

Young Aff. ¶11.

On the key issue of the Share Exchange Agreement which gave 39.9% voting control over Wachovia to Wells Fargo, the Young Affidavit says that Wells Fargo had initially demanded a 50% stake.  Young says that Wachovia negotiated that percentage down to 39.9%. Young Aff. ¶10. (It is a bit unsatisfying that Young's "testimony" on this pivotal point is really double hearsay -- she says in ¶10 the Board was "informed" by an unidentified person that someone, also unidentified, acting on behalf of Wachovia had engaged in this sharp negotiation with Wells Fargo).

Wachovia relied on a Delaware Chancery opinion from 1999, In re IXC Communications, Inc. Shareholders Litig., 1999 WL 1009174 (Del. Ch. 1999) which held that giving away 40% voting control doesn't lock up a merger and which emphasized the power of the remaining 60%:

Here, an admittedly independent majority of IXC's shareholders (owning nearly 60% of all IXC shares) may still freely vote for or against the merger, based on their own perceived best interests, and ultimately defeat the merger, if they desire. The defendants have not, in fact, 'locked up' an absolute majority of the votes required for the merger through the GEPT deal. Plaintiffs themselves, notwithstanding vigorous argument questioning the fairness of the GEPT deal, tacitly admit that the vote-buying agreement does not make the outcome of the vote a foregone conclusion. They can only say that the GEPT deal 'almost completely lock[s] up the vote-thus giving shareholders scant power to defeat the Merger...'  'Almost locked up' does not mean 'locked up,' and 'scant power' may mean less power, but it decidedly does not mean 'no power.'

Wachovia makes much of the absence of a material adverse change provision in the Merger Agreement, stating:

A few days after the Merger Agreement was executed, Wachovia posted a loss in excess of $20 billion for the third quarter of 2008 -- but faced no risk that Wells Fargo could terminate the Merger Agreement because the Agreement contains no material adverse change provision.  Wachovia obtained exceptional value in return for the so-called 'deal protection provisions' afforded to Wells Fargo.

Wachovia Brf. 17-18.

As it's spun out by Wachovia, one could argue that Wachovia, near financial death, out-negotiated Wells Fargo on this deal.  The Board got $7 per share for the Wachovia shareholders no matter how bad thing get, short of bankruptcy, insolvency, or a receivership.  Wachovia Brf. 15 n.7.  That's pretty impressive -- "exceptional value" in Wachovia's words -- considering the dire circumstances painted by the papers and the continuing implosion of the financial markets.

Plaintiff's reply brief is due Friday (November 21), then there's a hearing Monday (November 24).

North Carolina State Treasurer Says Wachovia-Wells Fargo Merger is "Highway Robbery"

This morning on CNBC, North Carolina State Treasurer Richard Moore referred to Wells Fargo's pending acquisition of Wachovia as a "shotgun marriage," "highway robbery," and as not being fair to Wachovia shareholders.

The State Treasurer has a significant interest in this merger.  The North Carolina Retirement System was holding 2,275,664 shares of Wachovia stock as of June 30, 2008, which were then worth $35,341,062, per the State Treasurer's Annual Report.  At the $7 per share to be paid by Wells Fargo, that investment has lost nearly $20 million in value since June.

Moore said in a follow-up interview today with the Charlotte Observer that the shares held by the Retirement System will vote against the merger, and that he will send a letter supporting the shareholder lawsuit seeking to enjoin the merger.  He stated “I hope that the shareholders of Wachovia will vote against this deal, and I hope that every politician that North Carolina has at the state and federal level works as hard as they can for an independent Wachovia.” 

He'll presumably send that letter directly to Judge Diaz, who is presiding over the lawsuit brought by Irving Ehrenhaus.  Moore won't be the first prominent citizen to do so, and he also won't be the first to use the word "robbery" to describe the pending deal. [Update: Moore did send his letter, on November 12, 2008].

The first person I know of to do that was John Georgius, who was President of First Union National Bank until 1999, two years before First Union became the surviving entity in its merger with Wachovia.  Georgius has already written a letter to Judge Diaz, expressing his objection to the merger, and stated that:


The capital letters are in the original.

And in another communication to Judge Diaz, William B. Greene, Jr., the Chairman of Bank of Tennessee, said that the only reason the Wachovia Board agreed to the merger was that they had been "beaten down and buggy whipped by the Regulators."

These letters, whether written or unwritten, obviously aren't evidence of anything probative to the legal issues raised by the shareholder class action.  But they certainly display a public sentiment that is strongly against this transaction, and make one wonder whether this deal would get the approval of  the majority of Wachovia shareholders if Wells Fargo didn't already have 40% of the vote locked up.

Update On The North Carolina Lawsuit Seeking To Block The Wachovia-Wells Fargo Merger

If you are following the shareholder class action seeking to enjoin the Wachovia-Wells Fargo merger, Plaintiff filed his Brief in support of his Motion for Preliminary Injunction yesterday. 

The focal point of Plaintiff's argument is that the deal protection devices in the Wachovia-Wells Fargo Merger agreement were too hastily negotiated by the Wachovia board, and that the Board violated its fiduciary duties in agreeing to them.  As Plaintiff puts it, "the Board rolled over and accepted all of these provisions 'in derogation of their unyielding fiduciary duties.'" Brf. at 22. 

Wachovia's response to Plaintiff's Brief is due November 17th; and Plaintiff's reply is due November 21st.  A hearing is set for 2:00 p.m on November 24th.


North Carolina Business Court Agrees To Decide Motion To Enjoin Wachovia-Wells Fargo Merger On An Expedited Basis, But Denies Expedited Discovery

The North Carolina Business Court today denied Plaintiff's request for expedited discovery in the putative shareholder class action seeking to enjoin the Wachovia-Wells Fargo Merger, but agreed to decide Plaintiff's Motion for a Preliminary Injunction on an expedited basis, setting a hearing three weeks from today. (I wrote about the Motion for Expedited Discovery in a previous post.)

After discussion of the appropriate standard for ruling on a motion for expedited discovery, Judge Diaz focused in his 10 page Order on Plaintiff's burden on the merits to show that Wachovia's Board of Directors had breached its fiduciary duties, and the deference to be given the Wachovia Board under North Carolina's Business Judgment Rule.

The Court described the Business Judgment Rule as a "high hurdle," and one which Plaintiff "may well be unable to overcome . . . particularly where (1) Wachovia's board asserts that quick action on the Merger Agreement was necessary to avoid a government-directed liquidation of the Company, and (2) Plaintiff presents no evidence of a competing offer for the Company."  Op. at ¶43.

Judge Diaz then observed that the Plaintiff had stated what he described as "colorable claims":

Plaintiff appears to have alleged colorable claims as to his contentions that (1) the Share Exchange transferring a nearly 40% voting bloc to Wells Fargo in advance of a vote on the Merger Agreement is unduly coercive, and (2) the limited “fiduciary out” clause contained in the Merger Agreement violates the Wachovia board’s continuing responsibility to exercise its fiduciary duties. See generally First Union Corp., 2001 NCBC 9 ¶¶ 81, 89 (stating that (1) a relevant test as to shareholder coercion is whether the vote will “‘be a valid and independent exercise of the shareholders’ franchise, without any specific preordained result which precludes them from rationally determining the fate of the proposed merger,’” and (2) courts should invalidate merger plans that “purport to restrict a board’s duty to fully protect the interests of the corporation and its shareholders”).

Op. at ¶44.  Judge Diaz also held that Plaintiff had "present[ed] a colorable claim as to irreparable harm."  Op. at ¶45.

Judge Diaz held, however, that expedited discovery was not necessary because "most (if not all) of the facts pertinent to resolving Plaintiff's request for preliminary injunctive relief are matters of public record."  Op. at ¶48.  He described those facts as follows:

(1) A mere two weeks before the Company’s demise, Wachovia’s President and CEO was insisting publicly that Wachovia “had a great future as an independent company;”

(2) In the ensuing period, Wachovia’s share price tumbled from $18.75 to $1.84;

(3) Wachovia’s board faced a crisis of historic proportions when it met to consider and approve the Merger Agreement;

(4) Wachovia’s board took very little time to digest and act upon the Merger Agreement;

(5) The Share Exchange gives Well Fargo almost 40% of the vote in advance of a decision by the Company’s shareholders as to approval of the Merger Agreement;

(6) The “fiduciary out” clause in the Merger Agreement prohibits the Wachovia board from walking away from the Wells Fargo deal should a better deal materialize, but instead only allows the board in that instance to make no recommendation to the shareholders, with an explanation;

(7) Should the Merger Agreement be approved by the shareholders, three members of the Wachovia board will be invited to join the Wells Fargo board;

(8) All of the agencies with regulatory authority over the Merger Agreement have approved it; and

(9) Following approval of the Merger Agreement by Wachovia’s board, no other entity has made a bid to purchase the Company.

Op. at ¶49.

The Court gave short shrift to the argument by Plaintiff that the Share Exchange Agreement (which gave Wells Fargo nearly 40% of voting control over Wachovia) was invalid under the Emergency Economic Stabilization Act of 2008.  In a footnote, Judge Diaz picked up the language of the Act which says that an agreement that "directly or indirectly . . . affects, restricts, or limits the ability of any person to offer or acquire . . . all or part of any insured depository institution" is unenforceable against an acquirer.  He held that Wells Fargo, the only acquirer on the horizon for Wachovia, "obviously has no interest in having the Share Exchange declared unenforceable."  Op. at n.7.

The Court set the following schedule for resolution of the Motion for Preliminary Injunction: Plaintiff's Brief and supporting materials are due November 10th; Defendants' responsive papers are due November 17th; and Plaintiff's reply is due November 21st.  A hearing is set for 2:00 p.m on November 24th.  

[If you read footnote 10 of Judge Diaz's opinion, he mentioned this blog and referred to me as a "prolific North Carolina business law blogger."  I appreciated that.  My dictionary defines "prolific" as "marked by abundant inventiveness."]